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Sintex (SINT)
Others
On-the-ground checks raise concerns on monolithic construction. We recently met
officials of the Uttar Pradesh Housing Board. Our meeting has led us to believe that (1)
the monolithic construction technique is not a competitive advantage as all the
competing contractors use the same (as per the tender), (2) the perception that other
construction companies would take time to scale up the learning curve is incorrect, and
(3) it is actually plain simple construction. We maintain SELL with a target price of Rs170
(10X FY2013E EPS; adjusted for impact of FCCB).
Some of the perceptions regarding monolithic construction are incorrect
Our meeting with the UP Housing Board belies some of the opinions held by the market
participants.
Perception1: Sintex derives competitive advantage versus other contractors on account of using
monolithic construction techniques as against the normal brick-and-mortar technique used by
others.
Our opinion: The construction technique to be used in a particular project is specified in the
tender. The choice of construction technique is not at the discretion of the contractor. So, every
construction company bidding for low-cost housing tenders bids using monolithic construction
technique (in case specified in the tender). Therefore, construction techniques can’t be a source of
any competitive advantage.
Perception 2: Monolithic construction is a virgin market in the overall construction segment.
Other construction companies would take some time to scale up on the learning curve. Hence,
there is some time till the competition in the segment increases to the point that it starts to impact
the EBITDA margins in the business.
Our opinion: High competitive intensity is already there. Our meeting has revealed that low-cost
housing tenders (using monolithic construction) are competitive. In the case of UP housing board,
each tender typically attracts 10-15 bidders and the difference between L1 and L2 bids is not more
than 2-4%.
Perception 3: Low-cost housing (using monolithic construction) is a high value-added segment
and hence margins in the business are higher than other construction projects.
Our opinion: Most of the participants in the low-cost housing tenders of UP housing board (using
monolithic construction) are small local contractors. In fact, we could not identify even one listed
construction company among the names of the contractors mentioned by the UP housing board
officials. In our opinion, a business where competition comes from small local contractors is low
value-added and has got limited potential to create value for the shareholders in the long term.
We are not surprised by the competitive profile in low-cost housing
We are not at all surprised by the presence of small construction companies in low-cost
housing tenders (using monolithic construction). It is logical as:
�� Low-cost housing tenders are of low value due to which small contractors qualify the networth
criteria. Typical project values in low-cost housing projects are much smaller than
other construction project involving roads, canals etc. Also, since the projects are smaller
(in value terms), large construction companies don’t bid for these projects.
�� Pre-qualification (technical) criteria are low. Virtually all the construction companies (big
or small) are qualified to execute low-cost housing contracts using monolithic
construction.
�� Availability of formwork is not an issue. Aluminum formwork can be easily imported at a
lead time of 2-3 months. There are hundreds of companies globally, which manufacture
Aluminum formwork. Also, there is no capital cost involved as it is an opex item.
Large construction companies are not active for a reason
In our opinion, large companies don’t actively participate in these tenders for a reason.
�� The competition is from small local contractors. In our view, it is difficult for a large
company to compete against small contractors as there is limited differentiation possible
once the method of construction is specified (in the tender). In fact, due to larger
overheads the costing for a large construction company would be higher as compared to
small contractors.
�� The projects are of low value.
In our opinion, in the longer term, since low-cost housing projects have higher competition
the margins should be lower than other construction projects.
We highlight our point through an excerpt (Exhibit 1) from one of the presentations of
AUDA (Ahmedabad Urban Development Authority).
“Monolithic technology requires only semiskilled and unskilled workers. Even a worker
having a hammer in his hand can be trained in a very short time and put on the job.”
We think that we don’t need to say anything further to prove that the business holds low
potential.
Unable to gather reasons for high margins (18-20%) in the monolithic segment
We are at a loss to explain the high margins in the monolithic segment as compared to
other construction companies. There are a couple of theories in the Street to explain the
same, one of which is that the cost of formwork for the company is very low as it
manufactures the formwork and uses waste plastic for the same. In our view, even if the
cost of formwork is zero it can’t drive more than 300-400 bps difference at the EBITDA level.
As per our estimates the cost of plastic formwork per sq. ft of built up area is ~ Rs28/sq. ft
(refer our note dated May 16, 2011). So, assuming the cost of construction at Rs800 per sq.
ft, even if the formwork is free, it can’t add 300-400 bps to the margins.
Also, we don’t agree with the opinion that plastic being used to manufacture formwork is
waste and hence cost is almost nil. Manufacturing of formwork requires LDPE (Low Density
Polyethylene). Therefore, the waste plastic being used to manufacture formwork has some
economic value. It could be the case that the cost of that plastic is not being booked in the
monolithic segment.
Other highlights
�� The Uttar Pradesh Housing Board has been delivering over ~100,000 units of low-cost
housing (~325 sq. ft each) annually during the past few years. Each of these units is
priced at Rs0.18-0.25 mn. The land for these projects is given by the state government
and hence, the cost is primarily the cost of construction. In FY2012E, the board would
construct only 50,000 units as high land prices have made it difficult to construct these
units at low cost. For each EWS (Economically Weaker Sections) unit, 30 sq. meter of land
is required. With the cost of land having increased to Rs6,000 sq. meter (at least), the cost
of land itself would come upwards of Rs0.2 mn per unit.
�� Monolithic construction is cheaper than conventional construction only if the building is
3-4 stories high. In case, higher floors need to be constructed, the thickness of load
bearing walls has to be increased which makes it more expensive (8-10%) than
conventional methods.
�� Low-cost housing contracts are fixed-price contracts with a typical execution cycle of two
years. The payments are done to the contractors on a monthly basis. Typically, the
payments are cleared during the first 7-10 days of the month.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Sintex (SINT)
Others
On-the-ground checks raise concerns on monolithic construction. We recently met
officials of the Uttar Pradesh Housing Board. Our meeting has led us to believe that (1)
the monolithic construction technique is not a competitive advantage as all the
competing contractors use the same (as per the tender), (2) the perception that other
construction companies would take time to scale up the learning curve is incorrect, and
(3) it is actually plain simple construction. We maintain SELL with a target price of Rs170
(10X FY2013E EPS; adjusted for impact of FCCB).
Some of the perceptions regarding monolithic construction are incorrect
Our meeting with the UP Housing Board belies some of the opinions held by the market
participants.
Perception1: Sintex derives competitive advantage versus other contractors on account of using
monolithic construction techniques as against the normal brick-and-mortar technique used by
others.
Our opinion: The construction technique to be used in a particular project is specified in the
tender. The choice of construction technique is not at the discretion of the contractor. So, every
construction company bidding for low-cost housing tenders bids using monolithic construction
technique (in case specified in the tender). Therefore, construction techniques can’t be a source of
any competitive advantage.
Perception 2: Monolithic construction is a virgin market in the overall construction segment.
Other construction companies would take some time to scale up on the learning curve. Hence,
there is some time till the competition in the segment increases to the point that it starts to impact
the EBITDA margins in the business.
Our opinion: High competitive intensity is already there. Our meeting has revealed that low-cost
housing tenders (using monolithic construction) are competitive. In the case of UP housing board,
each tender typically attracts 10-15 bidders and the difference between L1 and L2 bids is not more
than 2-4%.
Perception 3: Low-cost housing (using monolithic construction) is a high value-added segment
and hence margins in the business are higher than other construction projects.
Our opinion: Most of the participants in the low-cost housing tenders of UP housing board (using
monolithic construction) are small local contractors. In fact, we could not identify even one listed
construction company among the names of the contractors mentioned by the UP housing board
officials. In our opinion, a business where competition comes from small local contractors is low
value-added and has got limited potential to create value for the shareholders in the long term.
We are not surprised by the competitive profile in low-cost housing
We are not at all surprised by the presence of small construction companies in low-cost
housing tenders (using monolithic construction). It is logical as:
�� Low-cost housing tenders are of low value due to which small contractors qualify the networth
criteria. Typical project values in low-cost housing projects are much smaller than
other construction project involving roads, canals etc. Also, since the projects are smaller
(in value terms), large construction companies don’t bid for these projects.
�� Pre-qualification (technical) criteria are low. Virtually all the construction companies (big
or small) are qualified to execute low-cost housing contracts using monolithic
construction.
�� Availability of formwork is not an issue. Aluminum formwork can be easily imported at a
lead time of 2-3 months. There are hundreds of companies globally, which manufacture
Aluminum formwork. Also, there is no capital cost involved as it is an opex item.
Large construction companies are not active for a reason
In our opinion, large companies don’t actively participate in these tenders for a reason.
�� The competition is from small local contractors. In our view, it is difficult for a large
company to compete against small contractors as there is limited differentiation possible
once the method of construction is specified (in the tender). In fact, due to larger
overheads the costing for a large construction company would be higher as compared to
small contractors.
�� The projects are of low value.
In our opinion, in the longer term, since low-cost housing projects have higher competition
the margins should be lower than other construction projects.
We highlight our point through an excerpt (Exhibit 1) from one of the presentations of
AUDA (Ahmedabad Urban Development Authority).
“Monolithic technology requires only semiskilled and unskilled workers. Even a worker
having a hammer in his hand can be trained in a very short time and put on the job.”
We think that we don’t need to say anything further to prove that the business holds low
potential.
Unable to gather reasons for high margins (18-20%) in the monolithic segment
We are at a loss to explain the high margins in the monolithic segment as compared to
other construction companies. There are a couple of theories in the Street to explain the
same, one of which is that the cost of formwork for the company is very low as it
manufactures the formwork and uses waste plastic for the same. In our view, even if the
cost of formwork is zero it can’t drive more than 300-400 bps difference at the EBITDA level.
As per our estimates the cost of plastic formwork per sq. ft of built up area is ~ Rs28/sq. ft
(refer our note dated May 16, 2011). So, assuming the cost of construction at Rs800 per sq.
ft, even if the formwork is free, it can’t add 300-400 bps to the margins.
Also, we don’t agree with the opinion that plastic being used to manufacture formwork is
waste and hence cost is almost nil. Manufacturing of formwork requires LDPE (Low Density
Polyethylene). Therefore, the waste plastic being used to manufacture formwork has some
economic value. It could be the case that the cost of that plastic is not being booked in the
monolithic segment.
Other highlights
�� The Uttar Pradesh Housing Board has been delivering over ~100,000 units of low-cost
housing (~325 sq. ft each) annually during the past few years. Each of these units is
priced at Rs0.18-0.25 mn. The land for these projects is given by the state government
and hence, the cost is primarily the cost of construction. In FY2012E, the board would
construct only 50,000 units as high land prices have made it difficult to construct these
units at low cost. For each EWS (Economically Weaker Sections) unit, 30 sq. meter of land
is required. With the cost of land having increased to Rs6,000 sq. meter (at least), the cost
of land itself would come upwards of Rs0.2 mn per unit.
�� Monolithic construction is cheaper than conventional construction only if the building is
3-4 stories high. In case, higher floors need to be constructed, the thickness of load
bearing walls has to be increased which makes it more expensive (8-10%) than
conventional methods.
�� Low-cost housing contracts are fixed-price contracts with a typical execution cycle of two
years. The payments are done to the contractors on a monthly basis. Typically, the
payments are cleared during the first 7-10 days of the month.
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