27 Nov 2019 19:42 IST

Can infrastructure companies beat the slowdown blues?

Changes in policy and economic environment are key to the revival of rail and road projects

Infrastructure companies had reported a strong 30 per cent revenue growth at the aggregate level in FY19. With slowdown blues casting a gloom, revenues dropped 10 per cent in first half of FY20. However, thanks to the cut in corporate tax rate, profit after tax saw a 4 per cent uptick.

While the growth in bottom-line may bring some cheer, the road ahead for infrastructure companies looks bumpy.

Picking up cues from the infra players’ order-books, analysts at Antique Research predict a topline growth rate of 15 per cent in FY20 (from FY19 levels).

Why the order-book is important

While the past performance of a company is important, the growth potential of earnings cannot be overlooked. This is one of the basic thumb rules of stock picking.

Future earnings of an infrastructure company can largely be estimated from its outstanding order book. While growth in revenues and profits is important for these companies, a steady inflow of orders is also a must to keep the show running.

For instance, the infrastructure mammoth — Larsen & Toubro (L&T) — has an order book outstanding of ₹3.03 lakh crore (as of September 2019), providing a strong revenue visibility for the next two-three years.

FY20 so far

Infrastructure majors started the year with strong guidance on their order inflows, thanks to the Centre’s spends. Companies, on an average, expected 10-15 per cent growth in their order book. With half the year gone by, it is unlikely that these numbers can be achieved.

Contrary to their high growth expectations, in the September quarter earnings, most companies reported a drop in their outstanding order book, when compared to the numbers reported in March. Among them, those dependent on the Centre for contracts were the worst hit.

Pure-play road construction companies saw a 11-19 per cent drop in their order book in first half of the year. The reason — while companies continued executing existing orders, fresh inflows were down to a trickle.

To give this some perspective, the NHAI has awarded only 15 contracts (515 km in total) in FY20 so far. The data on its website reveals that the number was as high as 77 contracts in FY19 — for the construction of 2,263 km.

Subsequently, the order inflows for all road construction companies was almost nil in the first half of the year. While many see strong hopes of revival post December, the NHAI’s heavy debt burden leaves no room to expect a fast increase in EPC awarding. The balance sheets of the construction companies are also overly leveraged, leaving no scope for any other form of contracts in the BOT (build, own, transfer) and HAM (hybrid annuity model) models.

Some green shoots for these pure-play road players came from the States. Dilip Buildcon, for instance, was awarded two EPC projects for expressway construction by the UP government, worth ₹1,190 crore in the first half of FY20. Thanks to this, the drop in the company’s orderbook was the lowest among peers — at just 4 per cent.

Also, in Q3 so far, the company has won several contracts, including the Gujarat Airport expansion order, totalling ₹3,800 crore. However, its guidance for order inflows of ₹12,000 crore for FY20 still seems far-fetched — implying an expected inflow of ₹7,010 crore for the remaining five months of FY20.

Diversification

Companies with businesses diversified across avenues and geographies were able to beat the slowdown better.

For instance, L&T and KEC International demonstrated healthy order inflows in H1 of FY20. This, because of the international orders, which formed 20-30 per cent of order inflows for these companies.

In the domestic space, while road and power infrastructure came to a standstill, the railways and hydrocarbon divisions saw healthy order inflows.

Following this, pure-play road construction companies are looking at diversification to grow their order books faster. For instance, PNC Infratech is eyeing projects from metro rail and the Railways, to meet their earlier guidance levels of ₹6,000-7,000 crore of order inflows in FY20. The company has, so far, achieved only ₹170 crore worth of orders, given its heavy dependence on road projects.

However, railway infrastructure companies — RITES and IRCON International — have reported a 4 per cent drop (each) in their order books from March 2019.

The management of IRCON International, in its latest earnings conference call, cited a change in the key policy from the Centre as a major reason. Reportedly, the Ministry of Railways is considering a policy change to award railway execution projects under competitive bidding across railway PSUs such as RVNL, IRCON and RITES.

Railway orders (both domestic and international) constitute 94 per cent of the company’s outstanding order book. The share of international orders is, however, less than 5 per cent.

Clearly, the fate of this company and others in the group depends on the policy amendment. The sooner the amendment takes effect, the quicker the orders will begin to flow in.

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