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IVRCL Infrastructure & Projects (IVRC.BO, Neutral)
Structurally weak but priced on historical lows – could provide mean reversion opportunity if market
valuations expand; maintain Neutral
Even though the company maintains a large order book of Rs215bn (3.2X FY11 sales), it has not been able to
raise its execution rate for the following reasons: customer delays, a lack of equity, and land acquisition.
This low execution rate (31% for last year, which we forecast to drop to 30% for this year) has been
compounded by higher commodity prices and higher interest rates. Combined, these factors put substantial
pressure on the company’s margins and working capital.
We expect the company’s operating margins to compress by 80bp in FY12 driven by this loss of operating
leverage and the impact of high raw material prices – margins for 1QFY12 compressed by 150bp on the back
of continued weakness in execution, and sales growth of just 2% yoy.
Another concern for the company is its leverage – given its lower margins (discussed above) and existing
FY11 debt-to-equity of 1.3X, any rise in interest rates is a concern for the company. We believe interest
coverage (EBITDA/interest expense) for the company is likely to compress to 1.3X for FY12E.
Even though the stock has corrected substantially - down 73% ytd - and is now currently trading at trough
valuations, we see limited traction in the company’s operations both in terms of inflows and execution, while
concerns over the company’s debt management remain high.
We maintain our Neutral rating for the company based on the above factors. At the same time we lower our
FY12-FY14 earnings estimates by 15%-39% as we lower the execution rate further, and adjust for the
subsequent impact on margins and an increase the company’s debt requirement, with subsequently high
interest expense.
Catalyst
Strong order inflows in both the water and road segments; commissioning of two pending road BOTs; and
improvement in irrigation project execution in Andhra Pradesh.
Valuation
We lower our 12-month SOTP-based target price on IVRCL to Rs49 (from Rs93), given that: (1) We value the
company’s construction business at 6X FY12E EV/EBITDA to the average of FY12E-FY13E EBITDA (down from
7X earlier, which is in line with the median for construction sector peers). (2) We apply a 20% holding
company discount to the value of IVRCL’s 80% stake in IVR Prime and 55% stake in HDO.
IVRCL currently trades at 8.5X FY12E P/E and 0.3X FY12E P/B vs. a median of 18X and 1.7X, respectively.
Key risks
Upside: (1) Faster execution on new projects, (2) improved collection of receivables from Andhra Pradesh
irrigation projects, which helps working capital management.
Downside: (1) Aggressive bidding for new projects, (2) steep rise in interest rates, rise in material and
financing costs, and (3) lower-than-expected spending by the government on core infrastructure projects.
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