Traction in execution, monetization of assets key triggers, Initiate with BUY

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1 INDIA Institutional Research Construction NCC Ltd. Traction in execution, monetization of assets key triggers, Initiate with BUY Date: 28 th Jan 2013 Analyst: Suhani Patel Ph. No We initiate coverage on Nagarjuna Construction Company Limited (NCC) a Hyderabad based Construction Company with FY14 end target price of Rs 65 i.e. 22% upside. The company is engaged in construction related activities. It operates in 11 divisions: building and housing, roads, international, electrical, water and environment, irrigation, power, metals, railways, oil & gas and mining. The company has 5 BOT projects & 3 power projects. NCC is also into real estate business and has around 410 acres land bank across 6 cities in India and Dubai. Investment Theme Order book at 2.8x TTM revenue; diversified across various segments NCC has a robust consolidated order book of Rs 196bn (2.8 x TTM revenue), which provides revenue visibility, despite of sluggish order inflows in 9mFY13. The company also has presence across 11 different verticals of infrastructure, which gives it an edge over its peers against the slowdown in any of the segment. Execution back on track A sustained execution momentum across projects helped NCC to report a third consecutive strong quarter with 21.8% YoY growth in standalone revenues of Q2FY13 at Rs 13.3bn. With the execution rate recovering we expect 12% CAGR in revenue over FY12-15E. Asset sale to reduce debt The management is planning to sell its stake in the Bangalore elevated tollway, Western UP tollway, Himachal sorang project and real estate parcels in order to reduce debt Rs 5-6bn. The management is also looking for a strategic partner in the Krishnapatnam power project in order to meet its equity contribution of the remaining Rs 5.5bn. Real estate business to add value NCC is developing a number of projects (Residential and Commercial) aggregating 8.5mn sq ft under its 80% arm NCC Urban. The company is also developing projects close to 17.7mn sq ft in Hyderabad and Visakhapatnam under the parent company. Valuation As per our workings, EPC business contributes Rs 28 per share, BOT road projects & power projects contributes Rs 15 & Rs 16 per share and real estate projects contributes Rs 6 per share taking FY14 end target price to Rs 65. We advise investors to Buy the stock at the current market price. Rating BUY Target Price Rs 65 CMP Rs 53 Upside 22% Sensex Key Data Bloomberg Code NJCC IN Equity Reuters Code NGCN.BO NSE Code NCC Current Share o/s (mn) Diluted Share o/s (mn) Mkt Cap (Rs bn/$mn) 13.5/ WK H/L (Rs) 68.1/28.1 Daily Vol. (6M NSE Avg) Face Value (Rs) 2 Beta USD/Rs 53.7 Shareholding Pattern (%) Promoters 20.4 FII 40.5 Others 39.2 Price Performance (%) 1M 6M 1yr NCC Sensex Source: Bloomberg; *As on 25 th Jan 2013 (Rs mn) Revenue YoY% EBIDTA Margins (%) PAT Margins (%) FDEPS ROE (%) RoCE (%) P/E P/B D/E E E E Initial Coverage Networth Research is also available on Bloomberg and Thomson 1

2 Investment Theme Order book at 2.8x TTM revenue; diversified across various segments NCC has a robust consolidated order book of Rs 196bn (2.8 x TTM revenue), which provides revenue visibility, despite of sluggish order inflows in 9mFY13. The company also has presence across 11 different verticals of infrastructure, which gives it an edge over its peers against the slowdown in any of the segment. Exhibit 1: Diversified order book de-risk NCC business model 8% 30% NCC has secured orders worth Rs 26bn during 9mFY13 to close at Rs 196bn, implying TTM order book to bill of 2.8x 2% 10% 30% 3% 15% International Water, Environment and Railways Irrigation Power Buildings,Roads and oil& gas Electrical Metals Apart from a pan India presence, the company has its presence in Middle East countries (8% of the order book). It has 2 subsidiaries i.e. NCC International LLC in Muscat and Nagarjuna Contracting Co. LLC in Dubai through which it executes projects in Transportation, Water & Sanitation and Buildings in the region. Execution back on track A sustained execution momentum across projects helped NCC to report a third consecutive strong quarter with 21.8% YoY growth in standalone revenues of Q2FY13 at Rs 13.3bn. With the execution rate recovering we expect 12% CAGR in revenue over FY12-15E. Exhibit 2: Sales growth trend % 30% 20% 10% 0% -10% 0.00 Dec-10 Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12-20% Sales (Rs bn) YoY% 2

3 5 BOT project ensures steady cash flows Currently, NCC owns five BOT road projects across the country with an aggregate value of Rs 29.6bn. All the projects are operational ensuring steady cash flows. Exhibit 3: BOT portfolio BOT Projects Type Length Annuity/Toll collection Concession period Concession ends % share Cost Total Equity Total Debt Total Grant Company share in Equity Brindavan Infrastructure, Bangaluru - Maddur, Karnataka Annuity yrs % Bangalore Elev Tollway, Silk Board - Hosur, Karnataka Toll lacs per day 20 yrs % OB Infra, Orai - Bhognipur, UP Annuity yrs % Wstern UP Tollway, Meerut - Mujjafar nagar, UP Toll lacs per day 20 yrs % Pondicherry-Tindivanam,Tamil Nadu Toll lacs per day 30 yrs % Foray into power projects on PPA/merchant basis NCC s power plant of 100 MW (Himachal-Sorang) is likely to achieve COD by March 2013, which is on a merchant basis. In Krishnapatnam power project, the company has booked revenue worth Rs 1.8bn in 1HFY13 and indicated that COD for phase 1 (660 MW) is expected by March This project is a combination of both merchant and PPA power. In terms of PPA, NCC has been shortlisted by the Government of Andhra Pradesh for 500 MW at Rs 3.7/unit. It is also looking to participate in bidding by various state governments like Tamil Nadu and Karnataka SEB s shortly. In terms of coal linkage, NCC has transferred the Sompeta project coal linkages for 70% of coal requirement to the Krishnapatnam project, the LOI for which has been received by the company from Coal India. Furthermore, the company has also taken a stake in a green-field Indonesian coal mine with capacity of ~ 30 MT, which should suffice for coal requirement of 10 years. It would entail an investment of US$10mn out of which US$2mn has already been invested by NCC. Himalayan Green project has been cancelled by Sikkim Govt. on account of local resistance against hydro power project. YTD investment in this project is Rs 315mn. Exhibit 4: Power Projects portfolio Power Projects Type Capacity % share Cost Total Equity Debt / Other Company share in Equity Invested So far Expected Commissioning Himachal Sorang, HP Hydro % Mar-13 NCC Power, AP Thermal % Mar-15 Himalayan Green, Sikkim Hydro % Cancelled by sikkim Govt 3

4 Exhibit 5: Current structure NCC Ltd. NCC Infra Roads Power Brindavan Infrastruture Western Tollway UP Himachal Sorang Himalayan Green Bangalore Elevated Tollway NCC Power Project OB Infra Pondicherry Trivandum Asset sale to reduce debt Debt (standalone) has increased from Rs 22.3bn in FY12 to Rs 25bn due to higher working capital requirements, but the management is planning to sell its stake in the Bangalore elevated tollway, Western UP tollway, Himachal sorang project and real estate parcels in order to reduce debt Rs 5-6bn. The management is also looking for a strategic partner in the Krishnapatnam power project in order to meet its equity contribution of the remaining Rs 5.5bn. Real estate business to add value NCC is developing a number of projects (Residential and Commercial) aggregating 8.5 mn sq ft under its 80% arm NCC Urban. This includes NCC Harmony (1.45 mn sq ft) project being developed in Dubai. The company is also developing projects close to 17.7 mn sq ft in Hyderabad and Visakhapatnam under the parent company. Currently it is concentrating more on NCC Urban s real estate and 10 projects are under execution with a total saleable area of 6.2 mn sq ft. Exhibit 6: Structure JHLP NCC Ltd 80% 20% Promoters Tellapur Technocity NCC Urban NCC Vizag urban Real estate SPV s 4

5 Exhibit 7: Real estate portfolio Projects City % Holding Type Acreage MSF Status NCC Urban Gachibowli Hyderabad 70% Residential Ongoing NGHC Ranchi 88% Residential Ongoing Meadows Bangalore 60% Residential Ongoing Serene Bangalore 62% Residential Ongoing Aster Park Bangalore 80% Residential Ongoing Maple Heights Bangalore 100% Residential Ongoing Green Valley Cochin 100% Residential Ongoing Laurel Cochin 100% Residential Ongoing Royal Crest Bangalore 55% Residential Yet to commence Villa Project Bangalore 75% Residential Yet to commence Pallavaram Project Chennai 100% Residential Yet to commence Vaderapura Villa Project Bangalore 50% Residential Yet to commence Vaderapura Apt. Project Bangalore 60% Residential Yet to commence Residential Apt. Raipur 75% Residential Yet to commence Park Square Guntur 64% Residential Ongoing Jakkur Bangalore 50% Commercial Yet to commence MunneKollal Bangalore 50% Commercial Yet to commence NCC Harmony Dubai 100% Resi Comm Ongoing NCC Ltd. JHLP Hyderabad 25% Resi Comm Yet to commence Tellapur Technocity Hyderabad 26% Resi Comm Yet to commence Gajularamaram Hyderabad 75% Residential 4.4 Yet to commence NCC Vizag Urban Visakhapatnam 100% Resi Comm Yet to commence

6 Financial Analysis Strong order book to drive revenue growth The company s current standalone order book stands at Rs 180bn (excludes international orders worth Rs 16bn), thereby converting into order book-to-sales ratio of 3.1x trailing revenues. This provides comfortable revenue visibility over the next two to three years. Given the healthy order book, we expect revenues to grow at a CAGR of 12% over FY12-FY15E. Thus, we estimate revenues to increase from Rs 52.5bn in FY12 to Rs 72.9bn in FY15. Exhibit 8: Sales to clock a CAGR of 13% over FY12-14E E 2014E 2015E Total Order Book (Rs bn) Standalone Sales (Rs bn) Order book to sales ratio (x) 0.0 Margins continue to improve sequentially The company s standalone margins have also expanded steadily from 5.8% in Q4FY12 to 8.4% in Q2FY13 on the back of improvement in execution. We expect margins to sustain around 7.5-8% for the next 2-3 years. Exhibit 9: Margins to sustain around 7.5-8% going ahead % % 9.5% 10.0% % 8.4% 7.7% 7.9% 8.0% 8.0% % 5.8% 6.0% % % 0.0 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY E 2014E 2015E 0.0% EBITDA (Rs bn) EBITDA Margins 6

7 Lower Interest rate and reduced working capital to result in 47% CAGR in EPS over FY12-15E NCC s debt remain relatively high (D/E at 1) and we believe lower interest rate scenario going forward (RBI widely expected to initiate rate cut cycle from Jan 29 meeting) augurs well for the company. This coupled with improved working capital cycles (Working Cap Days to decrease to 150 in FY15E from 180 in FY12) should result in 47% CAGR in EPS over FY12-15E. Exhibit 10: PAT to improve on account of interest rate cut and lower working capital days E 2014E 2015E PAT ( Rs bn) PAT margins (%) 0.0 Exhibit 11: Interest cost as % of sales % 8.0% 7.0% % 3.9% 4.1% 5.1% 6.3% 5.9% 5.7% 6.0% 5.0% 4.0% 3.0% 1 2.0% % E 2014E 2015E 0.0% Interest cost ( Rs bn) Interest as % of sales 7

8 Investment Concerns Interest rate risks The inherent nature of the EPC business requires high working capital cycle. As on 1HFY13, the company has a high interest expense at 7% of revenues. Going forward, any hike in the interest rates could increase the company s interest costs and affect its earnings growth. Slowdown in awarding NHAI's awarding activity has been sluggish in the current year with awarding of only 2500 km in 9MFY13 as against target of 8800 km due to administrative delays and bottlenecks associated with land acquisition. Continuance of this sluggish awarding, therefore, is a major concern for road developers. Traffic risk Lower traffic growth can adversely impact the revenue growth for 3 projects which are toll-based and revenue is directly dependent on traffic. We highlight that we have built in conservative traffic growth of 4% for road projects and as such traffic risk should not be a major concern affecting our valuation estimates. Exposure to power projects About 25% of the company s target price is contributed by power business with 1420 MW. Any hurdle in funding the power projects may impact the target price. Risk to margins on account of raw material prices and rising competition A sharp increase in raw material prices may affect profit margins for long gestation projects and where price variation clauses are unavailable. Rising competition may also impact pricing power and impact profit margins. 8

9 Valuation Given the pick-up in execution, no equity commitment towards subsidiaries at least in the near term and debt paring plans through exiting three BOT projects and real estate assets; we have assigned a BUY rating on the stock with an SOTP target of Rs 65. Domestic Business We have assigned multiple of 6 to the earnings of domestic EPC business for FY14. (Almost in line to the average multiple of other players). International Business We have assigned multiple of 4 to the earnings of international EPC business for FY14. Exhibit 12: Comparison with peers Companies CMP Mcap FY12 FY13E FY14E FY12 FY13E FY14E KNR Construction Pratibha Unity MBL JKIL Simplex Infra Ramky Infra Supreme Infra Sadbhav Madhucon Average EPS P/E BOT road projects are valued based on NPV method whereas power projects & Real estate are valued at their investment value. Exhibit 13: SOTP Valuation Basis for Valuation Value (Rs mn) Per Share % Total Value We have deducted Rs 315 mn investment in Himalayan green power project from our valuation. EPC Business Domestic 6 Χ FY14 Earnings % International 4 Χ FY14 Earnings % Total % BOT Road Projects Brindavan Infrastructure, Karnataka NPV % Bangalore Elev Tollway, Karnataka* NPV % OB Infra, Orai - Bhognipur, UP NPV % Wstern UP Tollway, UP NPV % Pondicherry-Tindivanam, Tamil Nadu NPV % Total % Power Projects Himachal Sorang, HP 1 Χ Investment % NCC Power, AP 0.8 Χ Investment % Himalayan Green Sikkim 1 Χ Investment % Total % Real Estate Projects Land Under Development 0.5 Χ Investment % JHLP 0.5 Χ Investment % Tellapur Technocity 0.5 Χ Investment % NCC Vizag Urban 0.5 Χ Investment % Total % SOTP Based 1 years Target Price % 9

10 Company Background Nagarjuna Construction Co. (NCC) is one of the fastest growing construction companies in India, based in Hyderabad. The Company's business divisions are categorized as Building & Housing, Transportation, Electrical, Water & Environment, Irrigation, International, Power, Metals and Oil & Gas Division. It has a cluster of regional offices in Delhi, Ahmedabad, Bhubaneshwar, Kolkata, Mumbai, Bhopal, Lucknow, Hyderabad, Chennai and Bangalore. Also NCC has presence in international level through offices in Dubai (UAE) and Muscat (Sultanate of Oman). It is also present in infrastructure space with various BOT road and power projects. NCC forayed into the BOT road space in 2003 after winning Brindavan Infrastructure project. It currently has a portfolio of five road projects, two hydro power projects and one thermal power project. Exhibit 14: Company structure NCC Buildings &Housing Housing projects Industrial building IT parks Shopping malls Sports complexes Hotels Hospitals Roads Highways Bridges, flyovers & elevated corridors Realignment of existing highways & construction of bypasses Water& Environment Water supply projects Treatment plants Underground drainages Electrical Transmission and distribution lines and sub stations Project electrification Irrigation Dams Lift irrigation Gravity irrigation International Buildings Roads Water Power Oil & Gas Metals Mining Railways BOP for thermal & hydro Projects Tunneling for Hydro Electric Plants Oil &gas pipeline projects Refinery expansion Tied up with POSCO E&C EPC for steel plant projects Overburden removal Coal excavation Track Laying Signaling & Communication Railway Siding 10

11 Key management AAV Ranga Raju, CEO & Managing Director Ranga Raju is associated with the company as the CEO since July 2008, and also serves as its MD and Executive Director. He has over 33 years of rich experience in the construction industry. AGK Raju, Executive Director AGK Raju is one of the chief promoters of the company. He has over 23 years of rich experience in the construction industry and currently also serves as an executive director. RS Raju, CFO RS Raju serves as the CFO and Vice President of finance & accounts at NCC. YD Murthy, Sr Vice President( Finance) YD Murthy serves as a SVP of Finance at NCC and has over 30 years of rich experience in the industry and his qualifications include a bachelor's degree in engineering and a postgraduate degree in management. 11

12 Financial Summary Income Statement (Rs mn) Y/E March FY12 FY13E FY14E FY15E Net Revenues Growth % Total expenses Core EBITDA Growth % Other Income EBITDA Depreciation EBIT Growth % Interest Exp EBT Tax PAT Growth % Cash Flow Statement (Rs mn) Y/E March FY12 FY13E FY14E FY15E PAT Depreciation Changes in WC Cashflow from Operations Capital Expenditure Investments Cashflow from Investments Cash Flow from Financing Net Change in Cash Balance Sheet (Rs mn) Y/E March FY12 FY13E FY14E FY15E Cash and Equi Receivables Inventories Loans and Advances Other current assets Investments Fixed Assets CWIP Application of Funds Current liabilities Provisions Deferred Tax Liabilities Loan Funds Reserves and Surplus Equity Capital Sources of Funds Financial Ratios Y/E March FY12 FY13E FY14E FY15E Profitability Core EBITDA margins Net Profit Margins Return ROE ROCE Liquidity and Gearing Cash Conversion Cycle Current Ratio Debt/Equity Per Share EPS BVPS Valuation Price/Earning Price/BV

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