Indian Roads Sector – A Delightful Drive Ahead?

  • Date 26th April  
  • Industry – Roads Construction 

Summary

Here is a snapshot of the interesting Roads Sector. We sense a revival, and a number of players are active here.

Additional Roads Sector Reports from JainMatrix Investments

  • Please read our Feb 2018 report on HG Infra IPO by clicking on LINK.
  • And our July 2017 report – IRB Infra Developers – In Invit We Trust – LINK
  • Additionally do read our Aug 2016 report on Dilip Buildcon IPO by clicking on LINK.
  • We share a Nov 2015 Roads sector report – LINK

Introduction

  • The development of any nation depends on transportation networks, and this is applicable to India with its varied terrain ranging from mountains to plains to coast. Transportation includes Roads, Railways, Airlines and Shipping, however in this note we will focus on Roads.
  • India has the 2nd largest road network in the world, aggregating to 61 lakh kms. Roads are the most common mode of transportation and account for 86% of passenger traffic and 65% of freight traffic. In India, NHs with length of 1.04 lakh km are just 1.7% of the road network, but carry about 40% of the total road traffic. On the other hand, state roads and major district roads at the next level carry another 60% of traffic and account for 98% of road length.
  • There are 2 Govt. bodies which award road projects at the central level, NHAI which is in charge of the National Highway Development Programme (NHDP) and the Ministry of Road Transport and Highways (MoRTH), which covers those highways not under NHDP. In addition, it also awards projects under Govt. schemes like Left Wing Extremism (LWE) scheme (road development in Naxalite areas), Special Accelerated Road Dev. Programme for North-East Region (SARDP-NE), NH Interconnectivity Improvement Project (NHIIP), etc.

jainmatrix investments

Road Projects Progress

  • From Fig 1 and 2, we can see that road projects awarded and completed flattened out during FY12-FY14. Delays in land acquisition & receipt of environment/forest clearances, economic slowdown and cash flow issues faced by developers had adversely impacted the sector. From the Fig 3 below we can see the transition of project awarding to new modes over the last few years.

jainmatrix investmentsFig 1 – MoRTH projects Awarded / Fig 2 – NHAI projects / Source: MoRTH / NHAI ARs 

  • In FY16, the NHAI introduced the Hybrid Annuity model (HAM) as the earlier BOT-Toll based awarding caused financial distress to the developers and the EPC model involved high upfront investment of funds. In HAM, 40% the Project Cost is to be provided by the Govt. as ‘Construction Support’ to the developer during the construction period and the balance 60% as annuity payments over the operations period along with interest on outstanding amount. This model has received good response from industry and investors.

jainmatrix investmentsFig 3 – NHAI project awarded

  • CRISIL Research expects investment in road projects to double to Rs. 10,70,000 cr. over 5 years.
  • Investment in state roads are expected to grow steadily, and rise at a faster pace in case of rural roads, on account of higher budgets for Pradhan Mantri Gram Sadak Yojana (PMGSY) since FY16.
  • The GoI approved the Bharatmala program under which 53,000 kms of national highways have been identified to bridge critical infra gaps. It will give the country 50 national corridors as opposed to 6 at present. Phase I will be implemented from FY18-22 with 24,800 kms of construction expected.

Key Players

  • In Q4 FY18, the MoRTH had aggressively awarded projects to further accelerate the pace of road infra development. See the order book position of a few listed road developers, Fig 4 and Fig 5.

jainmatrix investmentsFig 4 – Order Books of Roads players / Fig 5 – Order Book FY18 / Fig 6 – Benchmarking 

  • Note: FY18# is the order book basis 9M FY18 data and documents available on the exchange.
  • In Fig 6, we have done a benchmarking exercise to compare a few sector players.

Conclusion

  • The development of road infra in India is witnessing great momentum. Robust demand, higher investments, favourable policies and government’s willingness has changed the face of the road sector in the country. The construction of roads per day hit a new high of 27 kms/day for FY18, which is much higher than what was achieved earlier.
  • The momentum of building a stronger road network in India is likely to improve as it generates mass employment and leads to significant growth in contribution to the GDP. Given the current roads sector scenario, investors should definitely not miss this exciting opportunity.

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Disclaimer

This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. Punit Jain has positions in IRB Infra since Feb 2008 and H G Infra post listing. Other than this, JM has no known financial interests in IRB Infra or any other firm mentioned in the article. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any investments will depend upon the recipient’s particular circumstances and, in case of doubt, advice should be sought from an Investment Advisor. Punit Jain is a registered Research Analyst under SEBI (Research Analysts) Regulations, 2014. JM has been publishing equity research reports since Nov 2012. Any questions should be directed to the director of JM at punit.jain@jainmatrix.com.

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H.G. Infra IPO – An Exciting Road Ahead

  • Date 23rd Feb 
  • IPO Opens 26-28th Feb with price range Rs. 263-270
  • Small Cap: Rs. 1,760 cr. Mkt cap
  • Industry – Roads Construction
  • Valuations: P/E 32.9 times TTM, P/B 3.7 times (Post IPO)
  • Advice: SUBSCRIBE 

Summary

  • Overview: HGI is a Jaipur based infrastructure construction, development and management firm with a focus on road projects, including highways, bridges and flyovers.
  • Revenues and profit for FY17 were Rs. 1,059 cr. and Rs. 53 cr. HGI’s revenues, EBITDA and PAT grew at 34.3%, 27.5% and 37.0% CAGR in 5 years.
  • HGI has a good 5 years performance where it has emerged as a rising star. The healthy order book, roster of completed roads projects and fair financial controls are impressive.
  • At a P/E of 32.9 times (adjusted post IPO), the valuations of the IPO appear to be high. However earnings growth is likely to be at a faster pace due to reduced interest costs, better efficiencies and sectoral traction. Good track record, robust financial performance, sectoral tailwinds and an experienced management team makes this IPO attractive.
  • Key Risks: 1) Project execution delays 2) Labor unavailability 3) Intense competition.
  • Opinion: Investors can SUBSCRIBE to this IPO with a 3 year perspective.

Here is a 5 minute video on HG. Infra Engineering IPO.

Here is a note on H.G. Infra Engineering (HGI) IPO.

IPO highlights

  • The IPO opens: 26-28th Feb 2018 with the Price band: Rs. 263-270 per share.
  • Shares offered to public number 1.71 cr. The FV of each is Rs. 10 and market lot is 55.
  • The IPO will raise Rs. 462 cr. by selling 26.26% of post IPO equity. The offer will be completed via an Offer for Sale (OFS) of Rs. 162 cr. and also by issuing fresh shares of Rs. 300 cr.
  • The promoter group owns 100% (no private equity ownership) which will fall to 73.7% post-IPO.
  • The selling shareholders are Hodal Singh, Harendra Singh, Vijendra Singh and Girish Singh of the Promoter family. They are selling 8.85% of their pre-IPO stake in HGI and are only part exiting.
  • The net proceeds from fresh issue of shares will be utilized as follows:

Exhibit 1 – IPO proceeds

  • The IPO share quotas for QIB, Non Institutional Buyer (NIB) and Retail are in ratio of 50:15:35.
  • The unofficial/ grey market premium for this IPO is Rs. 20-25/share. This is a positive.

Introduction

  • HGI is a Jaipur based infrastructure construction and development firm with a focus on road projects like highways, bridges and flyovers. Their main segments are (i) providing engineering, procurement and construction (EPC) services on a fixed-sum turnkey basis and (ii) EPC work for components of projects, primarily in the roads and highway sector.
  • HGI’s FY17 revenue, EBITDA and PAT were Rs. 1,059 cr., Rs. 124 cr. and Rs. 53 cr. resp.
  • HGI has also currently undertaking 2 water supply projects in Rajasthan on turnkey basis which includes the designing, construction, operation and maintenance of the project.
  • HGI is active across various states like Rajasthan, UP, Haryana, Uttarakhand, Maharashtra and AP. During the last 5 years, HGI has completed 13 projects above the contract value of Rs. 40 cr. in the roads and highways sector aggregating to a total contract value of Rs. 1,675 cr., which included construction, improving, widening, strengthening of 2 and 4 lane highways, construction of high level bridge and of earthen embankment, culverts and cart track underpasses.
  • As on Nov 30, 2017, HGI had 21 ongoing projects in roads & highways which includes construction, improving, widening, strengthening, upgradation and rehabilitation of 2, 4 and 6 lane highways, construction of high level bridge and construction of road network. This order book was Rs. 3,585 cr.
  • HGI is pre-qualified to bid independently on an annual basis for bids by NHAI (National Highways Authority of India) and MoRTH (Ministry of Road Transport and Highways) for contract values of up to Rs. 806 cr. based on HGI’s technical and financial capacity as on FY17.
  • HGI’s public sector clients include NHAI, PWD, MES and Jaipur Development Authority. They have also executed road construction contracts as a sub-contractor for private sector clients such as Tata Projects and IRB-Modern Road Makers.
  • HGI’s equipment base comprised of 1,064 construction equipment. Also HGI has employed 2,447 employees which includes 2,130 skilled workers like engineers and managers.
  • As of Nov 30, 2017, HGI had a total order book of Rs. 3,709 cr., consisting of 21 projects in the roads and highways sector, 4 civil construction projects and 2 water supply projects. See Fig 2.

jainmatrix investments, HG Infra IPO

Fig 2 – HGI’s order book by state and client type

  • Leadership is Harendra Singh (CMD), Vijendra Singh (Whole Time Director) and Rajeev Mishra (CFO).

News, Business Model and Strategies of HGI

  • Some impressive completed projects are 1) Yamuna Expressway in Noida, UP, 2) 4 laning of Jaipur-Tonk-Deoli project (Raj.) 3) Construction of Kuberpur to Fatehabad Road, Agra-Inner Ring Road (Phase-I) Agra, UP and ongoing 4) Rehabilitation and Up-gradation of Amravati-Nandgaon-Morshi-Warud-Pandhurna NH-53 (Mah.)
  • HGI’s business strategies are:
    • To focus on the EPC business in roads & highways sector and enhance execution efficiency.
    • Selectively expanding its geographical footprint in states such as Gujarat, Punjab and MP, which have favorable geographic and climatic conditions, other than Rajasthan and Mah.
    • Selectively explore hybrid annuity model (HAM) to grow its project portfolio.
  • Business Model: HGI follows a evaluation process during pre-bidding stage, which involves technical surveys, feasibility studies and analysing the technical and design parameters and the cost involved in undertaking the project. This approach enables them to bid at competitive prices and successfully win projects. Once they win a bid, their focus is to ensure high quality of construction during execution, as a result of which, they are able reduce maintenance and repair costs and realize higher margins during the operation & maintenance stage.

Roads Infrastructure Industry Outlook in India

  • India has the 2nd largest road network in the world, aggregating to 61 lakh kms. Roads are the most common mode of transportation and account for 86% of passenger traffic and 65% of freight traffic. In India, national highways with length of 1.04 lakh kms constitute a mere 1.7% of the road network, but carry about 40% of the total road traffic. On the other hand, state roads and major district roads at the next level carry another 60% of traffic and account for 98% of road length.
  • In FY16, the road transport sector contributed 3.2% to the Indian GDP.
  • Road transport is the most widely used mode of transport for freight and passengers. In Fiscal 2017, 64.5% of freight was carried by roads as compared to railways, from 56% in FY2010.

Key growth drivers for road sector are as follows:

  • Rise in GoI investments, reforms and higher budgetary support. CRISIL Research expects investment in road projects to double to Rs. 10.7 tn. over the next 5 years. Investment in state roads is expected to grow steadily, and rise at a faster pace in case of rural roads, on account of higher budgetary allocation to Pradhan Mantri Gram Sadak Yojana (PMGSY) since FY16. The GoI has approved the Bharatmala programme under which 53,000 kms of national highways have been identified to bridge critical infrastructure gaps. Bharatmala will give the country 50 national corridors as opposed to 6 at present and Phase I will be implemented from 2017-18 to 2021-22.
  • Policy changes to drive execution of national highway projects. Execution of national highway projects declined in the past two years on account of the private developers’ weak financials and unwillingness of lenders to provide further credit to infra companies. To clear this backlog, NHAI terminated projects and accordingly, work on 5,500 kilometers of length was stalled. To put execution back on track, the NHAI re-awarded almost 1,000 kilometers of the terminated projects.
  • New region-specific initiatives to drive growth in road network. The GoI has taken new initiatives to build state roads. MoRTH has set up the National Highways and Infra Development Corp which will award national highway projects in border areas and in the north-east states. Apart from these projects, the Bharat Mala programme has also been proposed to build new roads along the border.
  • Between FY18 and FY22, it is expected that an investment of Rs. 4.30 tn. would be made in the next 5 years for national highways, up 2.9 times compared with the past 5 years. Notably, the government will account for more than half of the investment.

Financials of HGI

  • HGI’s revenues, EBITDA and PAT grew at 34.3%, 27.5% and 37% CAGR in 5 years, see Fig 3.
  • The margins fell significantly in FY14-15 impacting profitability, because of rising commodity prices (for fixed-price contracts) and idling of capacities as execution could not begin on many new projects. The slowdown was common across the industry.

jainmatrix investments, HG Infra IPO

  • Fig 3 – Financials
  • HGI had a RoE of 30.3% in FY17 while the 3 year average RoE stood at 25.7% (FY15-17). The RoCE stands at 36.4%. These return ratios are high.
  • HGI has been Operational Cash flow positive in all the last 5 financial years from FY13-FY17. This is a positive. Over FY13-15, HGI repaid its borrowings and funded CAPEX from internal accruals. However since FY16, CAPEX rose sharply and were funded by borrowings. See Fig 4.
  • The current D/E ratio is 1.72:1 which is high which will fall to 0.70 post IPO.

jainmatrix investments, HG infra

  • Fig 4 – HGI Cash Flow  
  • Because of high Capex, HGI has not declared any dividends in the last 5 years.
  • Remuneration paid to the Key Management Personnel (KMP) +1 was Rs. 6.27 cr. for FY17, and 11.75% of PAT. Another Rs. 1.54 cr. was spent on insurance premiums for KMP. See Exhibit 5.

jainmatrix investments, HG infra

  • Exhibit 5 – Renumeration
  • HGI had an equity base of 5.4 cr. shares pre-IPO. Post the issue of fresh shares, the equity base will stand at 6.51 cr. (assuming fresh shares are issued at UMP of Rs. 270/share). This means the asking FY17 P/E is 27.4 (pre-IPO) and 32.9 (diluted post-IPO).

Benchmarking

We benchmark HGI against other listed infrastructure construction companies. See Exhibit 6.

jainmatrix investments, HG Infra IPO

  • Exhibit 6 – Benchmarking
  • The PE post IPO is high, so pricing appears aggressive, as seen with IPOs, a negative.
  • The sales growth is excellent, comparable to sector leader, Dilip Buildcon. Profit growth is good also, partly due to a recovery from a slowdown in 2014.
  • The post IPO D/E looks reasonable and is much better than a few of its other peer members. The IPO being partly fresh issue will help to reduce debt burden.
  • The RoE at 30.3% and RoCE at 36.4% is excellent, high in the industry. This is a positive.
  • HGI had the lowest EBITDA margin in the industry. However in H1 FY18, EBITDA margin is improving, due to better scale and efficiency in operations.
  • PAT margins may improve due to lower interest costs going forward.
  • Orders booked to Billings looks healthy and indicates over 3 years of revenue visibility.
  • Putting it together HGI looks like a firm at the start of a high growth phase that can be accelerated by this IPO.
  • Dilip Buildcon has done very well in last 2 years since IPO, and so is the sector leader. IRB looks undervalued and profitable. See our recent IRB report – In INVIT We Trust 
  • Also see our Roads Sector Note – THE ROADS SECTOR – IS IT A REVIVAL?

Positives for HGI and the IPO

  • HGI has strong project management and execution capabilities. It also owns its construction equipment needed for ongoing projects. This helps control costs, and improves reliability.
  • We can see a healthy order book; also HGI is pre-qualified to bid independently for project tenders by NHAI and MoRTH. This provides enough head room for faster growth.
  • HGI’s management team is qualified and experienced in the construction industry. The Promoters Girish Pal Singh, Vijendra Singh and Harendra Singh have 20 years of infra sector experience.
  • HGI has evolved from a sub-contractor to independent EPC firm, and subcontracting work has reduced to about 30% of revenues. Thus HGI is successfully moving up the value chain.

Risks and Negatives for HGI and the IPO

  • The valuations appear on the higher side among peers as P/E is 32.9 times (adjusted post IPO).
  • As HGI takes up projects on HAM in future compared to EPC, its working capital may increase.
  • With no private equity ownership, HGI will transition from a family owned firm suddenly to a public listed firm. This change will have to be handled carefully, including disclosures.
  • All firms in the sector face business risks like high working capital requirement, long project gestation periods, govt. clearances, local public opposition and PIL/ litigation issues.
  • Delays in the completion of construction of current and future projects is a risk. A significant part of business is with GoI and any change in govt. policies or delays in payment are a risk.
  • The firm has a business concentration in Raj. and Mah. with 96% of orders from there. But HGI is quite capable of growing a pan India footprint given good opportunities and projects.
  • Competition is intense in road projects, particularly in EPC projects rather than BOT.
  • HGI’s business is manpower intensive and any nonavailability of employees or labor issues can have an adverse impact on operations.

Overall Opinion and Recommendation

  • The GoI has over the last few years and in Budget 2018 emphasized the roads and infra push in terms of budgets and ministry focus. This long suffering Roads sector has seen a revival in last 2-3 years is now expected to be a significant beneficiary of govt. spending.
  • HGI has a good 5 years performance where it has emerged as a rising star. The healthy order book, roster of completed roads projects and fair financial controls are impressive.
  • At a P/E of 32.9 times (adjusted post IPO), the valuations of the IPO appear to be high. However earnings growth is likely to be at a faster pace due to reduced interest costs, better efficiencies and sectoral traction. Good track record, robust financial performance, sectoral tailwinds and an experienced management team makes this IPO attractive.
  • Key risks are 1) Project execution delays 2) Labor challenges 3) Intense competition.
  • Opinion: Investors can SUBSCRIBE to this IPO with a 3 year perspective.

JainMatrix Knowledge Base:

See other useful reports on the right side panel and See Reports sections of the Menu.

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Disclaimer

This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. JM has no stake, ownership or known financial interests in HGI or any group company. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any investments will depend upon the recipient’s particular circumstances and, in case of doubt, advice should be sought from an Investment Advisor. Punit Jain is a registered Research Analyst under SEBI (Research Analysts) Regulations, 2014. JM has been publishing equity research reports since Nov 2012. Any questions should be directed to the director of JainMatrix Investments at punit.jain@jainmatrix.com.

IRB Infra Developers – In InvIT we Trust

  • Date 25th July 2017
  • CMP: Rs 217
  • Mid Cap with Rs 7,600 cr. Mkt Cap
  • Industry – Infra/ Roads
  • Advice: BUY

Summary

  • Overview: IRB Infra is a top 5 roads & highway construction firm. It has a good portfolio of legacy and current projects, including Mumbai-Pune expressway and Ahmedabad – Vadodara highway. The 10 year growth in revenues, EBITDA and profits are 25.1%, 23.8% and 21.2% CAGR resp. With tight internal financial controls, this is a well-run business. They bid for larger BOT road projects and are able to execute successfully and within timelines.
  • Why Buy Now: 1) With the IPO of the IRB InvIT, IRB’s debt to equity fell from 3:1 to 1.8:1. The firm will now move to a more profitable period. 2) The sector outlook is good with revival of many stuck road projects, good budget allocations and a fast moving ministry 3) Attractive valuations.
  • Key risks are: 1) Political and legal risks of this sector. Criminal investigations pending against the top IRB executives 2) Periodic protests against toll collection on some roads.
  • Advice: The valuations are attractive at a P/E ratio of 9.9. IRB is a Medium Risk, High Gain stock. BUY with a 2 year perspective.

Additional Notes

  • A report on IRB was published for paying subscribers in Apr 2016.  We revisit the firm as it is once again attractive at these levels.
  • SIGN UP for the investment service subscription to gain exclusive access to such high quality investment reports.
  • We’ve been tracking this firm for 5 years, see our 2012 report – IRB Infra Developers – A Rising Road Star  

Here is a note on IRB Infrastructure Developers (IRB).

IRB Infrastructure Developers – Description and Profile

  • IRB is a Mumbai based road construction firm which does EPC and BOT projects.
  • FY17 revenues were Rs 5,846 crores & PAT 715 cr. The Revenues, EBITDA and Profits grew by 25.1%, 23.8% and 21.2% CAGR over 10 years.
  • IRB constructs Highways. The revenue segments are EPC (60%) and BOT (40%). It developed India’s first BOT project (Thane Bhiwandi Bypass) and operates Mumbai – Pune expressway. It has one of the largest BOT portfolios as it has constructed 11,828 km. of road so far. It has a 20% share in the golden quadrilateral (highways between 4 metros).
  • IRB has 6,000 employees. The order book stands at Rs. 9,959 cr. (FY17).
  • IRB operates in 2 models, BOT and EPC. The govt. in FY16 launched the hybrid annuity model, however IRB intends to focus on BOT toll road projects.
  • IRB launched India’s first Infrastructure Investment Trust (InvIT) in May 2017 which had an IPO. Through the trust, IRB (Sponsor) is holding 6 operational NHAI toll road assets with 3,645 lane km of highways across 5 states in west and south India. These assets are operational and generate income through inflation-linked tariff hikes. InvIT Investors are expected to be offered returns in the form of dividend, interest and buyback for holding units in the InvIT. The IRB InvIT CMP is Rs 97.5.
  • Leadership is V Mhaiskar (CMD), Ajay Deshmukh (CEO), and Anil Yadav (CFO)
  • Shareholding pattern % is: Promoters 57.4%, DII 7.4; QFIs 27.9, Individuals 4.4, others 2.9%.

irb infra, jainmatrix investments

Fig 1 – FY17 Order Book/ Fig 2 – State wise BOT portfolio

Business Model

  • In Build, Operate and Transfer (BOT) it constructs a road and then maintains it for a ‘concession’ period (15-30 years) while collecting toll, before handing it back to the govt. BOT projects involve upfront premium payment; revenues start once toll collection starts, and construction is internally funded, so loans have to be tied up (financial closure).
  • The Engg., Procurement and Construction (EPC) model involves the construction firm executing the project and collecting payments on achieving milestones of quantity and quality. On completion, the firm hands over the asset and collects all payments.
  • However the BOT model which was common earlier has faced high failure rates recently. To revive the road sector, the govt. decided to switch back to the proven EPC model. In Apr 2015, the govt. launched a hybrid annuity model. Under this, the govt. provides 40% of the project cost to the developer to start work while the remaining investment will be made by the developer.

IRB Infrastructure Investment Trust (InvIT) IPO

  • SEBI introduced infrastructure investment trust (InvIT) regulations keeping in mind the huge funding needs for infra.  InvIT enables developer-owners of infra assets to monetize their assets by pooling projects into a Trust, having an IPO and attracting better investors.
  • InvITs have to distribute 90% of their net cash flows to the unit investors. There is a cap on exposure to under-construction assets for publicly placed InvITs. The sponsor of the InvIT is responsible for setting up the InvIT and appointing the trustee. The sponsor (say IRB) has to hold minimum 15% of the units issued by the InvIT with a lock-in period of 3 years from the date of issuance. The InvIT regulations specify 80% of investments in completed and revenue-generating assets.
  • The IPO of IRB InvIT Fund opened on 3rd May, 2017. IRB InvIT was the first Indian company to list an InvIT. It was subscribed 8.57 times. Institutional investors who participated in the anchor book allocation included foreign investors such as the govt. of Singapore, Schroder Asian Asset Income Fund, Deutsche Global Infra Fund and Jupiter South Asia Investment Co. as well as DIIs such as Birla Sun Life MF, HDFC Standard Life and Birla Sun Life Insurance.
  • IRB received Rs. 2,600 cr. for sale of equity in 6 project SVP’s transferred to IRB InvIT fund. The consideration was as follows: 1) Rs. 1,681 cr. upfront 2) Units in IRB InvIT Fund worth 889 cr.
  • The funds will be used for new projects and to reduce debt. Post the launch of InvIT, IRB’s net debt to equity fell from 3:1 to 1.8:1. IRB expects a rating upgrade because of the same.
  • The following operational project assets were transferred to the InvIT:

irb infra, jainmatrix investments

Exhibit 3 – Operational projects transferred to IRB InvIT

  • InvITs have a minimum investment limit of Rs. 10 lakh per investor. The InvIT generates income on these assets is in the form of toll collection from road assets and interest on cash in the books. The Trust distributes at least 90% of this cash to the unit holders in the form of dividend, which is tax free. The dividend yield was estimated to be close to 12% at the upper price band of IPO (Rs. 102).
  • IRB has a 15% stake in IRB InvIT. Future projects by IRB can also be sold to InvIT.

Industry Outlook

  • The transport sector constitutes 6% of the country’s GDP. India has an extensive road network of 33.4 lakh kms. which is the 2nd largest in the world.
  • According to the 12th Five Year Plan, India transports 57% of goods by road, as compared to 22% in China and 37% in USA. Despite the performance of the road transport sector, the sector faces slow technological development, low energy efficiency, pollution and slow movement of freight and passenger traffic. GoI has now launched an initiatives to upgrade & strengthen highways.
  • There are 96,261 km of national highways in India, constituting less than 2% of India’s entire road network but carrying approximately 40% of total road traffic.
  • The National Highway Authority of India (NHAI) and the Ministry of Road Transport & Highways had sanctioned projects for 3,161 km’s in 2014-15. & 2,337 km’s in 2015-16. A solid 10,098 km’s and 16,031 km’s, respectively, were awarded during FY16 and FY17.
  • The list of Peers of IRB is over 50 Listed firms, plus diversified and unlisted firms. Competition includes Reliance Infra, Jaypee Infra, IL&FS Transportation, GMR Infra, Lanco Infra, L&T, IVRCL, Ashoka Buildcon, etc. However in the BOT segment, we believe qualified firms are few.
  • Our quick estimate is that IRB has about 4-6% market share, by revenues. In terms of quality of projects and proven expertise, IRB definitely falls in the top 5.
  • For FY16, an outlay of US$3.8 bn. was provided for the highway sector.

Business Notes, Recent events and Strategies

  • Recently after the listing of IRB InvIT, other sector players like GMR, IL&FS Transp. Networks and L&T also plan to set up their InvITs.
  • The Q1 FY18 Revenues and PAT were Rs 1870 cr. (up 21% YoY), and 238 cr. (up 31% YoY) resp. The results were good largely on account of execution pickup and InvIT listing.
  • D/E Ratio is reduced from 3:1 to approx. 1.8:1; this may lead to a credit rating upgrade. IRB had declared an Interim Dividend of Rs. 2.5/- per share for FY18. The board approved offering of Pathankot – Amritsar project to IRB InvIT Fund.
  • IRB and MSMRM were registered under a case for not taking safety measures while carrying out widening work on NH66 in March 2016.
  • In Jan 2016 IRB bagged the Rs.10,050 cr. Zojila Pass tunnel road project in J&K, the country’s biggest road project. But in Mar 2016 the project was cancelled, due to some political issues. Now the project has opened for re-bidding. Reliance Infra, Jaypee Infra, IL&FS Trans. and L&T are bidding.
  • In Nov 2016, currency notes of 500/- and 1000/- were demonetized and the govt suspended the user fee collection on National Highways from 09th Nov to 2nd Dec 2016. NHAI had later said that they would compensate infra companies for the loss of toll collections. IRB received Rs. 30-35 cr. cash compensation in Q3 FY17 itself which was adjusted against payment to NHAI. A similar amount of compensation is expected to be received soon.
  • IRB has guided that revenue and EBITDA would be flat for FY18 as 6 operational assets have been transferred to the InvIT, however PAT may go up because of reduction in interest payment on lower debt. IRB has also guided that they have identified 18,000 cr. of projects where they are qualified to bid and they will do so as and when it comes up for bidding.
  • They have guided a 6-7% traffic growth in FY18 and a 10% revenue growth in construction order book for FY18. Also a 2-2.5% inflation in ticket prices could be witnessed.
  • IRB approved acquisition of 34% stake in its arm Aryan Infrastructure Investments Pvt Ltd (AIIPL) from promoters to make it a wholly-owned subsidiary in Mar 2017.
  • About 0.14% of the equity base has been pledged by the Promotor & Promoter Group.

Stock evaluation, Performance and Returns

irb infra, jainmatrix investments

Fig 4 – Price History / Fig 5 – Quarterly Financials 

irb infra, jainmatrix investments

 

  • The price history in Fig 4 shows that the share price had touched a 1 year high of Rs. 272.
  • This was ahead of the launch of the InvIT and the share had a low of Rs. 178 post demonetization. The share price is currently 21.7% below the peak and 19.7% above the low.
  • Investors in IRB have got a return of 9.7% CAGR over 5 years and -4.5% CAGR in the last 2 years.
  • Revenues, EBITDA and Profits of IRB are up by 25.1%, 23.8% and 21.2% CAGR over 10 yrs., see Fig 5. EBITDA is in 50% range while Profit margins are in 12% range.
  • Fig 6 indicates Free Cash Flows for the period FY09-16. The company has not been able to generate free cash flows to equity shareholders given the nature of business. This is a negative. However the cash flow situation should improve as the capital investments get freed under the InvIT ownership.
  • Current P/E is 9.9 of TTM earnings, while the Price/ Book is 1.35 times. This is low and attractive.
  • Debt equity ratio is 1.8:1 (May 2017) which has reduced drastically after the launch of InvIT.
  • Beta of the stock is 2.12 (Reuters) indicating high volatility. Thus any positive or negative news can move the share price sharply in those directions.
  • Dividend yield of 1.88% currently is good as compared to its peers.

irb infra, jainmatrix investments

Fig 6 – Cash Flow / Fig 7 – Booked to Billing ratio

irb infra, jainmatrix investments

  • The Orders Booked to Billing ratio (BTB) for IRB is in Fig 7. Order Booked position at IRB was 9,959 cr. (FY17), and the 1.7 years of Booked to Billings is low. This may improve in the near time. The Zojila tunnel project cancellation severely impacted the ratio. IRB has guided that there are Rs 18,000 cr. of projects where they are qualified to bid and they will do so as and when it comes up for bidding.
  • The PE ratio has a historical range of 5-25 over 9 years, and the average is 15 times. It is now at 9.9 (Fig 8) and so IRB appears undervalued. The EPS charts in Fig 9 shows that EPS grew rapidly in 2008-11, then flattened out in the high interest rate / low economic growth situation of 2011-14 and now appears to be recovering on the backdrop of govt. initiatives coupled with favorable macro-economic factors. The recent fall in PE is caused by good growth in EPS and flat market price range.

irb infra, jainmatrix investments

Fig 8 – Price and PE graph / Fig 9 – Price and EPS graph

irb infra, jainmatrix investments

 Strengths of IRB

  • IRB has a good reputation with high quality BOT assets and financial and execution capabilities.
  • The InvIT model is excellent for IRB to monetize its operational BOT assets. With the only successful InvIT in India in place, IRB has been able to reduce debt substantially. BOT assets will also attract right investors who are looking for steady returns over 10-30 years.
  • IRB is in a unique position to sharply focus on construction efficiencies. With a sharp reduction in debt and improvement in reserves, IRB is in a position to reduce interest costs compared to earlier and to bid for new BOT projects without funding constraints.
  • IRB has a diversified project portfolio and revenue base currently spread over 8 states.
  • Current valuations look very attractive for fresh investments.
  • The Roads sector is on a big upswing with NHAI and govt. ramping up on an infra push.

Weaknesses and risks with IRB

  • Even at 1.8 times, D/E is high for IRB, and the focus needs to be to sell assets to the InvIT.
  • In BOT projects, toll revenues depend on toll receipts, which, in turn, depend on toll fees and traffic volumes on the toll roads, and factors which may be outside of IRB’s control, including, fuel prices in India, the frequency of traveller use, the number and affordability of automobiles etc.
  • There is a 2009 pending criminal investigation – a case was registered at Lonavala police station against IRB top executives, alleging illegal purchase of govt. land in villages Pimploli & Ozarde, District Pune on the basis of fake and forged documents. Later on 13th Jan 2010, the related RTI Activist was murdered. In the event that there is any adverse finding in the land acquisition matter or in the murder case, the reputation of the IRB and its business may be adversely affected. However roads is a tough sector, and there will be much litigation as part of the business.
  • Political and legal risks are high in this sector.
  • There have been periodic protests against toll collection on some roads.
  • So far, IRB has only bid for larger and more profitable projects. In future, to keep its growth trajectory in place, it will have to bid aggressively for more projects.
  • So far IRB has been strong in West India: Mah., Raj. & Guj. It has to develop a more national profile.

Benchmarking

In a Benchmarking exercise, we have compared IRB to other infra companies, in Exhibit 10.

irb infra, jainmatrix investments

Exhibit 10 – Benchmarking

  • We can see that a few of the companies in the roads sector are in financial distress. We added Adani Ports to bring in the perspective of a well-run Indian infra company.
  • IRB stock appears to be on the attractive side in terms of P/E and to a lesser extent P/B.
  • It also leads on margins. It has performed average in terms of growth of sales and profits. However this can change with a good business outlook. Dividend yield is good. Asset turnover may improve as more operational BOT projects are handed over to InvIT.

Opinion, Outlook and Recommendation

  • There is an urgent need to upgrade Indian infrastructure such as roads and highways. This was reflected in the Feb 2017 Indian budget announcements. We can see that on one side highways have improved a lot in the last decade. At the same time it seems that in a short while after new roads are opened, they seem to be crowded and used to capacity!!
  • The sector is seeing clear signs of improvement with the govt. making progress in reviving old stuck projects as well as opening bidding for many new ones.
  • IRB has a good reputation in the roads sector, with an excellent portfolio. It bids for larger projects and is able to execute within timelines. It is well managed financially with a fair balance sheet.
  • The roads sector recovery has been slow so far with bottlenecks, but we believe that the introduction of the InvIT structure is a game changer.
  • IRB is the first to successfully launch InvIT fund. It has been able to bring down the debt which will help in freeing up capital for fresh investments. In the last 3 years, the average earnings growth stands at 16% p.a. Reduced interest cost, traffic volume growth and faster churn of new projects is likely to aid earnings growth.
  • The valuations are attractive at a P/E ratio of 9.9.
  • IRB is a Medium Risk, High Gain stock. BUY with a 2 year investment horizon.

Disclaimer

This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. Punit Jain has been a long term investor in IRB Infra since Feb 2008. Other than this, JM has no known financial interests in IRB Infra or any related group. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any investments will depend upon the recipient’s particular circumstances and, in case of doubt, advice should be sought from an Investment Advisor. Punit Jain is a registered Research Analyst under SEBI (Research Analysts) Regulations, 2014. JM has been publishing equity research reports since Nov 2012. Any questions should be directed to the director of JainMatrix Investments at punit.jain@jainmatrix.com.

IRB Infra Developers – A Rising Road Star

  • Date: 7 Aug’12                    Price: Rs 125.8                    Mid Cap with mkt cap 4190 crores
  • Advice: Medium Risk, High Gain stock at attractive entry point. Buy systematically
  • JainMatrix valuation for IRB is 254. It is available at 50% discount.
  • Target: 312 by 04/13, and 409 by 04/14.

This update of the Mar 15 2012 article by JainMatrix Investments includes FY12 results, news updates and FY15 projections.

IRB Infrastructure is a leading roads & highway focused construction firm. It has a very good portfolio of legacy and current projects. Tight internal financial controls and a 5-year CAGR growth in Revenues (59%), EBITDA (52%), Net Profit (75%) and EPS (69%) make this an attractive business to buy into. Debt at 5.2k cr (D/E 1.84) is within limits.

This stock is testing investors, as the price plunged 40% in  May’12 on news that three top execs are being investigated in a case related to a real estate project off Pune Expressway. But the firm is confident of their non-involvement. The event should have no bearing on IRB business performance. Investors can hold on and even look at this fall as an opportunity to invest.  

IRB Infrastructure Developers – Description and Profile

  • IRB is focused on the fast growing Indian road and highways sector. FY12 revenues were 3,256 cr & PAT 496 cr
  • IRB takes up road projects involving Construction of Highways; and Operation and Maintenance (BOT) of this for a ‘concession’ period (of 15-30 years) while collecting toll, before handing it back to the government.
  • The key revenue segments are Construction (71%)and BOT (29%). IRB has a large BOT portfolio, of 6,446 Lane-kms, with a market share of 11.1% on the Golden Quadrilateral. This portfolio includes prestigious projects like the Mumbai-Pune expressway, Surat-Dahisar, etc. IRB earns a high daily gross toll today, which is growing fast.
  • Shareholding pattern is: Promoters – Individual/Corporate 67.6%, MFs/ DII 5.4%; FIIs 18.7%, Individuals retail & HNI 4.6% and Bodies Corporate plus others 3.7%. Thus Promoters hold a clear majority stake – a good sign.
  • Construction payments are made at project execution milestones, so revenues are lumpy. Now the newer projects involve upfront payment of premium to government, so revenues start only once Toll collection starts, while construction work is internally funded.
  • IRB has strong in-house integrated execution capabilities, which give it a better control on execution and costs of projects. So experienced personnel are the main resource of this firm.
  • The CMD of IRB is Virendra Mhaiskar, an experienced construction engineer.

Events, News and Strategies executed by IRB

  • Competition is intense for Construction projects. To counter this, IRB is Bidding for larger creamier projects.
  • A recent achievement was the Feb’12 financial closure of the 4,880 crore Ahmedabad-Vadodara road project. It is the first ever-Ultra Mega project of NHAI on BOT basis & DBFOT pattern.
  • In May ’12, IRB won a large four laning project of Goa/Karnataka Border to Kundapur section of NH-17 of 190 Km in Karnataka under NHDP phase IV. The project is of approx Rs. 2400 crores.
  • BOT projects give 21-22% returns compared to Construction 17-18%. So IRB is now taking the M&A route to acquire operational BOT projects.
  • In May’12, IRB Infra acquired MVR Tollways for Rs 130 cr. It has a 66km BOT road between Salem-Karur in TN
  • Structurally, IRB is a holding company, and each new project is floated as a separate company. There are about 20 subsidiaries. This structure gives IRB flexibility in financing and executing projects.
  • Strong financial record and relationships with financial institutions helps it get loans on tap. The firm is careful about profitability/ IRR of project bids. In 2010, it slowed bidding for new projects due to high interest rates.
  • IRB has diversified into related areas – Airport and Realty.
    • The Realty project is Real estate development alongside the Mumbai – Pune Expressway. Land acquisition of approximately 1200 acres has been completed for township development.
    • It will develop a Greenfield Airport in Sindhudurg District, Maharashtra, adjacent to Goa
  • IRB prefers to own the road construction machinery and Units/ plants required on projects.
  • From a dominant Maharashtra operation, it has consciously expanded into a pan-India presence helped along by big recent wins in Karnataka, Gujarat and North India.

Industry Note:

  • Out of the recently identified critical Infrastructure sectors, the Roads sector has done the best in growth, new projects bid out and performance. Governance is better in Roads & highways. Bidding out has happened in a transparent manner. And out performance in project delivery is rewarded with better returns.
  • The list of Peers of IRB is over 50 Listed firms, plus diversifieds and unlisted firms. Competition includes Reliance Infra, Jaypee Infra, IL&FS Transp, GMR Infra, Lanco Infra, L&T, IVRCL, Ashoka Buildcon, etc. Industry estimates are that 90 firms are pre-qualified for prestigious National Highways Authority of India projects.
  • Consolidation is expected in this industry. A lot of operational BOT projects are available in the market for acquisition, as firms try to pare down debt. These are opportunities for IRB to grow their portfolio directly.
  • My quick estimate is that IRB has about 4-6% market share, by revenues. In terms of quality of projects and proven expertise, IRB definitely falls into the top 5.
  • Earlier construction projects were awarded to the lowest cost bidder, with Govt. paying to bridge project viability. Today projects are awarded to the bidder that pays the highest premium to Govt. This is due to intense competition, and higher traffic volume projection on Highways. Govt. is now able to earn revenues.
  • There is a huge demand for Road construction. For Road projects built under National Highways Development Project (NHDP), the flagship road-building program of the Transport Ministry, the plan is for upgradation of about 50,000 km of roads, at a rate of 7,300 km of roads every year.

Stock valuation, performance and returns

  • IRB had its IPO in early Jan 2008. The subscription was fair at 4.3 times. Pricing was at 185, the lower end of the range. Luckily the IPO was before Reliance Power, and listing was before the crash of ‘08.
  • From its IPO price of 185, it fell in the 2008 crash to 65, later peaked in Aug 2010 at 312, but fell again in May ’12 to the current 126, see Fig 1. Thus IPO investors have actually seen a 32% loss in 4 years.
  • Dividend has increased to 18%, giving a yield of 1.6%. This steady increase indicates good financial health.
Investments and Returns, JainMatrix Investments

Fig 1 – Investments and Returns, JainMatrix Investments

  • As compared to share price, Quarterly Income, EBITDA and Net Profit show a wonderful growth path in Fig 2. Note that Q1 & Q4 of every year have higher numbers due to end of year and seasonal factors.
  • For a 5-year period the growth figures are Sales (59%), EBITDA (52%), Net Profit (75%) CAGR. These are astonishing numbers, and we are seeing the rapid rise of a very competent Roads Mid Cap stock.
Quarterly Revenue and Profits, JainMatrix Investments

Fig 2 – Quarterly Revenue and Profits, JainMatrix Investments

  • We can see from the Consolidated EPS and Cash Flow – Fig 3, there has been a rapid growth in Cash from Operating activities. Steady Cash flow is coming from several BOT stage projects.
  • Consolidated EPS has risen by a super 69% CAGR through this period, though from a low base.
IRB - EPS and Cash Flow, JainMatrix Investments

Fig 3 – IRB – EPS and Cash Flow, JainMatrix Investments

  • While the Cash Flow is good, in fact IRB is in a very cash intensive business. Net Debt has been rising at 37% CAGR since FY08 (Fig 4). However seen along with other business data presented above, this is sustainable.
  • D/E is 1.84, below the infra firm warning level of 2.0 (the fall in D/E in Mar08 was from IPO funds deployment).
IRB - Debt and DE Ratio - JainMatrix Investments

Fig 4 – IRB – Debt and DE Ratio – JainMatrix Investments

  • An important ratio for IRB is the Orders Booked to Billing ratio (BTB). This has fallen, but is still quite comfortable (Fig 5). IRB has preferred to bid for only larger and more profitable projects.
  • Order Booked position at IRB is 10185 cr, giving a comforting 3 years near term business visibility.
  • Thus we can see that IRB has enjoyed good growth patterns, while at the same time managing its finances and debt well.
IRB - Order Booked to Billings, JainMatrix Investments

Fig 5 – IRB – Order Booked to Billings, JainMatrix Investments

  • The Price and PE Chart of IRB, Fig 6, shows that IPO of IRB in ’08 was at aggressive valuations. However IRB has justified this over the last 5 years with excellent business performance.
  • Today the PE of IRB is 8.3 times, below the industry average of 17. In fig 6 we can see that the average PE in the last 3 years has been 25. PE has today fallen to very low levels in this valuation range.
IRB - Price and PE Chart, JainMatrix Investments

Fig 6 – IRB – Price and PE Chart, JainMatrix Investments

  • The view of the EPS charts in Fig 7 shows that EPS grew very rapidly in 08-11 periods, then flattened in the high interest rate situation of 2011. The expectation is that the interest rate cycle has peaked today, and with fall in interest rates, the EPS will resume the upward march.
  • The EPS of IRB is expected to stay in the Trend line range of Fig 7.
IRB - Price and EPS Chart, Jainmatrix Investments

Fig 7 – IRB – Price and EPS Chart, Jainmatrix Investments

  • ROCE is 13.3% and RONW is 18.6%, these are good ratios.
  • PEG is at 0.12 – indicates undervalued status

Peer Benchmarking and Financial Estimates till FY15

In a Benchmarking exercise, we have compared IRB to other infrastructure companies, in Exhibit 8.

IRB, Financial Ratio Benchmarking, JainMatrix Investments

Exhibit 8 – IRB, Financial Ratio Benchmarking, JainMatrix Investments

The conclusion we come to is that on a combination of high growth, low valuations and good financial controls, IRB is a better all round player. IL&FS also is showing improving ratios.

JainMatrix Investments projections of FY12 financials in Mar’12 report were very close to the actuals, only 1-3% difference. Here are the further projections till FY15, Exhibit 9.

Key Financials and Projections - JainMatrix Investments

Exhibit 9 – Key Financials and Projections – JainMatrix Investments

Risks:

  • IRB suffered a setback in its mega township project off Mumbai-Pune Expressway. The land acquisition process went wrong, with many middlemen/ agents getting involved, unrest among farmers, and finally the murder of a RTI activist. The IRB Chairman and 2 senior executives are under investigation. When the case details became public in May’12, the share price of IRB plunged 40%.
    • Even though it is being investigated, the case is a fallout of a local frenzy to sell land to IRB among farmers. It appears that the firm is being dragged into an unfortunate event, and they are cooperating with the agencies. The justice process may take 3-5 years, and the firm should not face any financial or operating effects from this.
    • The steep fall thus needs to be examined as a technical event, an event driven panic. IRB after plunging 50% to 100 levels has recovered to 125.8, is gathering strength here, and given a few weeks of stability should recover completely.
  • Industry: Roads sector has seen high competition, and is now poised for a 2-3 year period of consolidation. High competition drove infra firms to bid aggressively for new projects. Many firms in this sector have overstretched their balance sheets and may default on payments/ restructure debt/ sell assets.
  • This sector is dependent on the government for a lot of key inputs. Risks here include environmental clearance, handover of land by government for Road construction as well as roadside land for development (wherever applicable), procurement of land by government and political / R&R issues.
  • Interest rates increases in the Indian economy are certainly impacting the balance Sheet of IRB
  • IRB: The focus in IRB has shifted to execution quality and M&A. IRB needs to develop a second rung of management and leadership to take it to the next level of growth.

Opinion, Outlook and Recommendation

  • India’s creaking infrastructure demands road construction, starting with National Highways. IRB is a focused Road construction major with an excellent portfolio of completed projects and visible operational excellence. The 3-year review of financials shows that the company is in good shape.
  • IRB will see controlled growth due to the strategy of bidding for larger and more profitable projects.
  • The 32% fall in price since the IPO is due to a poor sentiment and appetite in the market for infrastructure firms and higher interest rates. However, this sector will recover over the next 2 years.
  • My opinion is that the 40% fall of IRB price in May was an event driven panic fall. It has recovered partle already, and over the next few weeks and months, the price should recover fully.
  • FY12 results have been excellent, exceeding expectations. IRB will continue to be a Rising Road Star.
  • It is the nature of markets that sentiment makes share prices fall far below or appreciate far above the fundamental value. IRB is underpriced at these levels. In a falling interest rate scenario, IRB will continue to outperform as it lowers its cost of debt and delivers on projects.
  • IRB is a Medium Risk, High Gain stock. At these levels and in this trajectory, it is a BUY.
  • Price Projections – the projections are a little reduced from earlier:
    • Our valuation prices the share at 254 (down from 271). Thus today it is available at a 50% discount.
    • By Apr ’13, the price projection is 312, a 174% appreciation from CMP
    • By Apr ’14, the price projection is 409, a 258% appreciation from CMP

JainMatrix Knowledge Base:

See other useful reports

Additional Infrastructure sector reports from JainMatrix Investments:

KEC International – LINK
BGR Energy Systems – LINK
Adani Port and SEZ – LINK

Disclosure: It is safe to assume that if the JainMatrix website recommends a stock, the researcher has already invested in it.

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IRB Infrastructure Developers – A Rising Road Star

Viewers may like to see the May 2012 update of this report at LINK

  • Date: March 15, 2012. Price: Rs 199, Mid Cap with a market cap of 6617 crores
  • JainMatrix valuation for IRB is 271. It is available at 36% discount.
  • Target: 352 by 03/13, and 432 by 03/14. Advice:  Buy now and systematically

IRB Infrastructure is a leading mid-sized roads & highway focused construction firm. It has a very good portfolio of legacy and current projects. Tight internal financial controls and a 5-year CAGR growth in Sales (58%), EBITDA (51%), Net Profit (76%) and EPS (69%) make this an attractive business to buy into. Poor market sentiment in 2011 drove the price down. The recovery has begun, but IRB is still available at attractive valuations. 

Subscribers exclusively received this report around 15 Mar ’12. 

IRB Infrastructure Developers – Description and Profile

  • IRB is focused on the fast growing Indian road and highways sector. The revenues for FY11 were 2,502 crores, with PAT at 464 crores.
  • Road projects by IRB involve first the Construction of Highways; then Operation and Maintenance (BOT) of this for a ‘concession’ period (of 15-30 years) while collecting toll, before handing it back to the government.
  • The key business & income segments are Construction (69%)and BOT (31%). IRB has one of the largest BOT portfolios in the country, a total length of around 6,446 Lane-kms, with a market share of 11.1% on the Golden Quadrilateral. This portfolio includes remunerative projects like the Mumbai-Pune expressway, Surat-Dahisar, etc. As a result, IRB earns a high daily gross toll collection today, which is expected to double in 3 years.

IRB Infra, JainMatrix Investments

  • The Shareholding pattern depicted in Fig 1 shows Promoters hold a significant stake – a good sign
  • In addition to Toll, the Construction part of the business may be paid in terms of milestones achieved in the project execution, so revenues tend to be lumpy. In fact newer projects involve upfront payment of premium to government, so revenues may start only once Toll collection starts, while all construction work may have to be internally funded.
  • IRB has strong in-house integrated execution capabilities, which give it a better control on execution and project costs . Experienced personnel, expertise and high end equipment are the main resources of this firm.
  • The force behind IRB is the CMD, Virendra Mhaiskar, an experienced construction engineer.

Strategies executed by IRB

  • Competition is intense. To counter this, IRB is now bidding for larger ticket projects. With its excellent portfolio of BOT projects, this is a good strategy.
  • A recent achievement was the Feb’12 financial closure of the 4,880 crore Ahmedabad-Vadodara road project. It is the first ever Ultra Mega project of NHAI on BOT basis & DBFOT pattern. The project involves 6-laning of a 2-lane highway, road length 196 km & construction cost of ~3,600 crores, with concession period of 25 years. IRB mobilized debt of Rs 3,300 crore, incl. Rs 1,100 crore of foreign currency borrowings, at a cost of 10.5%.
  • Strong financial record and relationship with leading financial institutions – helps it get loans on tap. Also the firm is careful about the profitability/ IRR of projects it bids for. In 2010, it slowed down on bidding for new projects due to a higher interest rates in the economy.
  • Structurally, IRB is a holding company, and each new project is floated as a separate company. There are about 20 subsidiaries. This structure gives IRB flexibility in financing and executing projects.
  • IRB has diversified into related areas – Airport and Realty.
    • The Realty project is Real estate development alongside the Mumbai – Pune Expressway. Land acquisition of approximately 1200 acres has been completed for township development.
    • It will develop a Greenfield Airport in Sindhudurg District, Maharashtra, adjacent to Goa
  • IRB prefers to own the road construction machinery and plants/ units required on projects.
  • From a dominant Maharashtra operation, it has consciously gained a pan-India presence with recent wins in Karnataka, Gujarat and North India.

Industry Note:

  • Out of the recently identified critical Infrastructure sectors of Power, Airport, Roads, Oil, Ports and Rail, the Roads sector has done the best in growth, new projects bid out and performance. Unlike in Telecom, Ports or Power, Governance scores high in Roads & Highways. Bidding out has happened in a transparent manner. Outperformance in project delivery is rewarded with better returns.
  • Competitors of IRB include over 50 Listed firms. Plus there are diversifieds and unlisted firms. These includes Reliance Infra, Jaypee Infra, IL&FS Transp., GMR Infra, Lanco Infra, L&T, IVRCL, Ashoka Buildcon, etc. About 90 companies are pre-qualified for National Highways Authority of India projects.
  • My quick estimate is that IRB has about 4-6% market share, by revenues. In terms of quality of projects and proven expertise, IRB definitely falls in the top 5.
  • Earlier the Highway projects were awarded to the lowest bidder, and the Govt. would then pay the developers to make the projects viable. Today the new economics are that projects are awarded to the bidder that pays the highest premium. This is a result of high competition for bids and higher traffic volume projections on Highways. Govt. also is able to bid out more projects and earn revenues :-)
  • There is a huge demand for Road construction. For Road projects built under National Highways Development Project (NHDP), the flagship road-building program of the Transport Ministry, the plan is for upgradation of about 50,000 km of roads, at a rate of 7,300 km of roads every year. Also the budget shortfalls in the government will not restrict this work, as bids are now generating a Premium for the government.

Stock valuation, performance and returns

  • IRB had its IPO in early Jan 2008. The subscription was fair at 4.3 times. Pricing was at 185, the lower end of the range. Luckily the IPO was before Reliance Power, and listing was before the crash of ‘08.
  • From its IPO price of 185, it fell in the 2008 crash to 65, later peaked in Aug 2010 at 312, and is now in the 190 range. See Fig 2. Thus IPO investors have seen barely 3-4% gains in 3 years.
  • Dividend is 15%, gives a yield of only 0.76%, but a steady increase indicates good financial health.
IRB Price, JainMatrix Investments

Fig2 – IRB – Investment and Returns, , click on image to expand

  • As compared to share price, Income, EBITDA and Net Profit show a wonderful growth path in Fig 3. Note that Q1 & Q4 of every year have higher numbers due to end of year and seasonal factors.
  • For a 5-year period the growth figures are Sales (58%), EBITDA (51%), Net Profit (76%) CAGR. These are astonishing numbers, and we are seeing the rapid rise of a very competent Roads Mid Cap stock.
JainMatrix Investments

Fig3 – IRB – Quarterly Sales and Profits, , click on image to expand

  • We can see from the Consolidated EPS and Cash Flow – Fig 4, there has been a rapid growth in Cash from Operating activities. Steady Cash flow is coming from several BOT stage projects.
  • Consolidated EPS has risen by a super 69% CAGR through this period, though this is from a low base.
JainMatrix Investments

Fig 4 – IRB – EPS and Cash Flow, click on image to expand

  • While the Cash Flow is good, in fact IRB is in a very cash intensive business. Net Debt has been rising at 33% CAGR since FY08 (Fig 5). Seen along with other business data presented above, this is safe and sustainable.
  • Debt-Equity is 1.67, below the infra firm warning level of 2.0. Fall in DE in Mar08 was due to IPO funds usage.
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Fig5 – IRB – Debt and DE ratios, click on image to expand

  • Current Order Booked position at IRB is 9258 crores, which is about 3 years of business, at current runrates.
  • An important ratio for IRB is the Orders Booked to Billings ratio (BTB). This has shown a falling trend, but even so is quite comfortable, see Fig 6. This trend is due to IRB strategy to look for profitable and stable new business from larger and more prestigious projects.
  • Thus we can see that IRB has enjoyed good growth patterns, while at the same time has managed its finances well, particularly debt, so far.
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Fig 6 – IRB – Booked to Billings Ratios, click on image to expand

  • The Price and PE Chart of IRB, Fig 7, indicates that IPO of IRB in 2008 happened at aggressive valuations. However IRB has justified this over the last 5 years with excellent business performance.
  • Today the PE of IRB is 13 times, below the industry average of 15.6. In fig 7 we can see that the average PE in the last 3 years has been 25. CMP is now at the lower end of the valuation range.
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Fig 7 – IRB – Price and PE trend, click on image to expand

  • The view of the EPS charts in Fig 8 shows that EPS grew very rapidly in 08-11 periods, then flattened in the high interest rate situation of 2011. The expectation is that the interest rate cycle has peaked today, and with fall in interest rates, the EPS will resume the upward march.
  • The EPS of IRB is expected to stay in the Trend line range as per Fig 8.
  • ROCE is 13.3% and RONW is 18.6%, these are good ratios.
  • PEG is at 0.188 – indicates undervalued status
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Fig 8 – IRB – Price and EPS trend

Peer benchmarking and Financial Estimates till FY14

In a Benchmarking exercise, find a comparison of infra firms is in Exhibit 9

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The conclusion we come to is that on a combination of high growth, low valuations and good financial controls, IRB is a better all round player.

The financials and PE of IRB have been projected for the next 3 years. See Exhibit 10

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Risks:

  • Industry: Roads sector has done well and a lot of new entrants have driven up competition in the sector.
    • However, high competition has driven infra firms to bid aggressively. Many firms in this sector may have overstretched their balance sheets and may even default on payments/ need restructure debt.
    • This sector is dependant on the government for a lot of key inputs. Risks here include environmental clearance, handover of land by government for Road construction as well as roadside land for development (wherever applicable), procurement of land by government and political / R&R issues.
    • There may be resistance from Road users/ consumers to Toll charges.
  •  Interest rates increases in the Indian economy are certainly impacting the balance Sheet of IRB
  • IRB: The focus in IRB has shifted to execution quality. The firm needs to maintain its standards and quality of construction even with a 50% growth in project volumes. This requires astute project management, scaling up of operations and hiring and development of talent within the organization.
  • IRB needs to develop a second rung of management and leadership to take it to the next level of growth. It seems now to be a one-man show of current CMD.
  • One way for IRB to deal with the high debt situation is to monetize its toll road assets by a securitization process. I am not sure if this is permitted for a non-NBFC. However if permitted, the low risk future revenues of the Toll roads can be encashed today, which can reduce debts and improve finances.

Opinion, Outlook and Recommendation

  • IRB has a great portfolio of Road projects. Its strategy of bidding for larger and more prestigious projects will succeed and sustain its leadership profile. The 3-year review of financials shows that the company is in good shape.
  • In 2012, the sentiment has improved in the markets. IRB price too has gained, from a low of 121 on 3rd Jan’12 to current 199 levels (a 64% gain in 2 months). Past peak is 312 around Aug ’10.
  • It is the nature of markets that sentiment makes share prices fall far below or appreciate far above the fundamental value. IRB is underpriced at these levels. In a falling interest rate scenario, IRB will continue to outperform as it lowers its cost of debt and delivers on projects.
  • IRB is a Medium Risk, High Gain stock. At these levels and in this trajectory, it is a BUY.
    • Our valuation prices the share at 271. Thus today it is available at a 36% discount.
    • By Mar ’13, our projected price is 352, a 77% appreciation from CMP
    • By Mar ’14, the price projected is 432, a 117% appreciation from CMP
Additional Infrastructure sector reports from JainMatrix Investments:
KEC International – LINK
BGR Energy Systems – LINK
Adani Port and SEZ – LINK

Disclosure: It is safe to assume that if the JainMatrix website recommends a stock, the researcher has already invested in it.

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