Partnering India’s Growth Story

The infrastructure sector is a key driver for the Indian economy to pick up momentum. The sector is highly responsible for propelling India’s overall development and enjoys intense focus from the government for initiating policies that would ensure time-bound creation of world-class infrastructure in the country. The government estimates that USD 1 trillion of investments will be required for developing India’s infrastructure in the 12th Five Year Plan period. However, the industry continues to see very little growth and is in deep financial distress mainly because of the stalled projects, which have created huge financial stress. On the other hand, Hindustan Construction Company (HCC) has displayed some stability and can take credit for several positives even while it is poised to benefit from infrastructural spend.

The Business

HCC Group is a global infrastructure company with total group turnover of Rs 10,353 crore as on FY15. The company’s core business involves construction of roads, hydro power plants, water treatment plants, nuclear power plants, etc. The HCC group of companies comprises HCC and its subsidiaries viz. HCC Infrastructure Company, Lavasa Corporation, Steiner AG, HCC Real Estate and Highbar Technologies.

·         HCC: The company is engaged in engineering construction and has projects that span across such segments as transportation, power, marine projects, oil and gas pipeline construction, irrigation and water supply, utilities, real estate, and property development.

·         HCC Infrastructure: It is engaged in the creation and management of assets in the areas of transportation, power and water. However, only 0.04 per cent of the total revenue of HCC Group comes from HCC Infrastructure.

·         Steiner AG: Steiner AG is Switzerland’s second-largest total services’ contractor. The company specializes in turnkey development of new buildings and refurbishments, and offers services in all facets of real estate development and construction. Interestingly, 51.85 per cent (Rs 5,368 crore as of FY15) of the total revenue of HCC comes from Steiner AG.

·         Highbar Technologies: This is an IT solutions’ provider for the infrastructure industry. Its ERP portfolio aims to provide IT solutions that help increase efficiencies in organisations. Only 0.43 per cent of the total revenue comes from this company.

·         Lavasa: Lavasa is India’s first planned hill city near Pune, spread over 1,000 hectares of land. It plans to include five self-sustaining towns. However, just 2.76 per cent of the total revenue of HCC comes from this entity.

Traction in Order Book

HCC has won orders worth Rs 6,781 crore and is also the lowest bidder in projects worth Rs 4,381 crore till date in the current fiscal year. The combined orders in hand and in the pipeline have crossed the Rs 20,000 crore mark, which is the highest in the last five years. Geographically, its major projects are in Jammu and Kashmir, Uttarakhand, Andhra Pradesh and Assam; all of these together constitute 65 per cent of the projects, with Jammu and Kashmir’s contribution being as high as 25 per cent.

The current order backlog is at Rs 16,988 crore, excluding L1 contracts worth Rs 4,381 crore. Segment-wise, transportation has the largest share of 52 per cent among these backlog projects. The hydro power segment has 23 per cent of the backlog projects while the water segment has 17 per cent, and nuclear and other segments have 8 per cent backlog projects. Interestingly, as per the management, the company is not involved in any large stalled project and hence is not affected. HCC being an EPC company, its role starts when it gets the contract. However, there are some few small state government projects that have not progressed well for reasons like financial issues.

Segments

HCC caters its expertise in four major segments. In the transport segment, roads, bridges and metros make for 50 per cent of turnover and 50 per cent of the order book. The hydro power sector contributes almost 30 per cent to the company’s turnover and order booking. The water sector comprises irrigation projects i.e. laying of pipelines, lift irrigation, and making canals and barrages. It constitutes 10 per cent of the order booking. The remaining 10 per cent of order booking and revenue comes from the nuclear power segment. It includes industrial projects, fabrication works, etc., as for example, fabrication project for Hindalco, refinery work for Reliance, nuclear power building projects, constructing large underground storages for oil refineries, and so on.

Operational Legacy

HCC has 90 years’ experience of doing this business. The company has most of the projects in remote areas, including the Himalayan ranges. This has benefited the company since not all its peers undertake projects in such far-flung and isolated territories. Therefore, competition becomes less and the margins are high in these projects.

Competitive Advantage

HCC has the expertise to undertake tunneling work and is in fact the largest tunneling company in the country at this point of time. Any difficult job commands good margins, which is a factor in favour of the company. According to the management, HCC is among the very few that has about 7-8 tunnel boring machines (TBMs).

New Business Stream

HCC was never present in the building segment. However, since the year 2000, given the huge building projects that were launched across the country with project values of above Rs 1,000 crore, HCC entered the fray. It acquired 100 per cent stake in Switzerland-based Stenar AG to focus on construction of buildings, thereby introducing Swiss technologies in this sector. Steiner India has supervised and monitored the entire construction work undertaken at Lavasa near Pune. HCC’s consolidated topline was Rs 11,000 crore as of FY15, of which Rs 5,000 crore came from Stenar AG. Meanwhile, the company is not planning to pitch the Lavasa IPO at this point of time since the real estate market is not favourable in the near term. However, the management has clarified that this will be done as soon as the market condition improves.

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Claim Status

HCC’s filed claims are of Rs 10,000 crore with various government agencies. These claims work as follows: If the company is awarded a contract to undertake a project but has to remain idle because the land has not been sanctioned, the delay is attributed to the agency that has awarded the contract with no fault on the part of the company. In due course, extension of time to complete the project is granted. The company can therefore lay claims about escalation of costs and at times the issue goes into arbitration. If the contract-awarding agency fails to reach a settlement, the matter goes to court. The claim is finally settled as per the court’s order.  

Of HCC’s claims of Rs 10,000 crore, the company has been able to push about Rs 6,000 crore from arbitration. It has also received an order worth Rs 3,000 crore in its favour, of which it has collected Rs 400 crore till date. In the current fiscal year, HCC will collect Rs 500 crore and in the next financial year the company will recover Rs 500-1,100 crore. What will help this process is that the government has pardoned ordinance and announced an Arbitration and Reconciliation Act that will soon be implemented. The law will ensure that entire process of arbitration becomes quicker. It will also provide wide power to the arbitrator and lead to interim relief. In the coming 18-month period, HCC will manage to collect almost Rs 2,000-3,000 crore. This will help reduce its debt.

Financials

For the last quarter, HCC’s revenue increased by 0.44 per cent to Rs 936 crore on a yearly basis. The net profit of the company increased by almost five times to Rs 38.44 crore on a yearly basis due to exceptional gain of Rs 45.23 crore arising out of 26 per cent divestment in Vikhroli Corporate Park. If we remove the exceptional items, the profit before tax (PBT) of HCC has gone up by 39.05 per cent to Rs 14.6 crore on a yearly basis. On a half yearly basis, HCC’s revenue decreased by 3.95 per cent to Rs 1,844 crore during H1 FY16 on a yearly basis. The company’s net profit increased by 37.21 per cent to Rs 46.46 crore in H1 FY16 on a yearly basis.

Further, on a yearly basis, HCC’s consolidated topline increased by CAGR of 7.68 per cent to Rs 10,353 crore as of FY15 during the past five years. The company’s EBITDA also rose with CAGR of 15.83 per cent to Rs 1,247 crore as of FY15 in the last five years. However, its bottomline remained under pressure and stood at a net loss of Rs 160 crore in FY15 because of interest expense, leading to increase in CAGR of 20.28 per cent to Rs 1,280 crore in the fiscal year. HCC has total debt of Rs 11,899 crore as of FY15. The company has cash and cash equivalent of Rs 816 crore as of FY15. It is focused to cut its debt burden through various methods.

HCC raised Rs 400 crore through Qualified Institutional Placement (QIP) in April 2015. The company has also put into motion a divestment strategy. In late June it plans to raise additional funds of around Rs 1,000 crore or equivalent in foreign currency. On the valuation front, HCC’s book value stood at Rs 6.9. The company has a price/BV of 3.65 multiples, which is quite strong among its peers. Its EV/EBITDA stood at 10.02, which is lower as compared to L&T, GMR Infrastructure and Lanco Infratech, which have EV/EBITDA of 17.38, 14.9 and 27.81 respectively.

Conclusion

During the last Union Budget, the government announced that it would be spending close to Rs 1 lakh crore in railway updgradation and Rs 1 lakh crore in developing infrastructure along with a Rs 1.5 lakh crore package for Bihar and Rs 80,000 crore  for Jammu & Kashmir to boost infrastructure. It also declared a Rs 10,000 crore project to develop Andaman & Nicobar as a maritime hub. The positive sentiment enveloping the sector will be a big opportunity for a company such as HCC. The company has succeeded in building up an order book of Rs 3,000 crore in the past three months. It now has orders worth Rs 6,000 crore in hand and will therefore witness the most traction in the business. Therefore, we recommend buying this stock.