Construction Execution - Key to Improvement Outlook Report Rating Outlook N E G A T I V E Summary Negative Outlook: India Ratings has revised its Outlook on Indian construction companies to Negative for 2013 from Stable in FY12. This is due to continuing challenges in order execution which have resulted in stretched working capital. Liquidity as well as leverage has been adversely affected in many construction companies which have ventured into build-operatetransfer (BOT) projects due to the challenges in raising equity to fund these projects. Ratings Partly Reflect Risk: The rating levels of India Ratings-rated construction companies have already factored in some of the execution risks; this contributes to the high proportion of Stable Outlooks. Some companies with deteriorated credit metrics also have Stable Outlooks as India Ratings has already taken sufficient action to accommodate foreseeable stress. Figure 1 Slow Order Execution: While order books continue to be strong, execution has not picked up due to various issues. Delays are seen in the commencement of execution of new projects due to delays in obtaining clearances from the government. Ongoing projects are exposed to delays due to inadequate funding and disagreements over contractual terms, leading to delays in the clearance of bills from officials. Land acquisition issues delay both commencement of new projects as well as completion of ongoing projects. Subdued Equity Markets: The slowdown in economic growth and lackluster equity markets, have resulted in the drying up of public as well as private equity. As banks are cautious in lending to the projects lacking equity funding, it has become difficult to achieve debt closures on BOT projects. Construction companies are finding it increasingly difficult to raise equity and are funding equity requirements of BOT projects by borrowing at the parent level, adversely impacting the parents credit profiles. This is likely to continue in the medium term. Increasing Working Capital: Working capital cycles have been lengthening due to delays in certification of work from clients (a pile up of work in progress) as well as in payments from clients (a pile up of receivables). This has stretched the liquidity position of companies, reflected in their high use of working capital facilities. Deteriorating Credit Metrics: The increase in usage of working capital debt and the funding of equity portion of BOT projects through debt at the parent level has led to increase in leverage. This coupled with the continued high-interest-rate regime has impacted the interest coverage ratios of construction companies. The leverage position is expected to deteriorate further for companies with large unexecuted BOT portfolios with substantial equity requirements. What Could Change the Outlook Analysts Vinay Betala +91 44 4340 1719 vinay.betala@indiaratings.co.in Sreenivasa Prasanna +91 44 4340 1711 s.prasanna@indiaratings.co.in Aashish Bhusnurmath +91 11 4356 7252 aashish.bhusnurmath@indiaratings.co.in Ashoo Mishra +91 22 4000 1772 ashoo.mishra@indiaratings.co.in Improved Speed of Execution: The outlook could be revised back to stable in the event of improvement in speed of execution leading to a faster turnover of order books. A successful governmental push to speed up the execution of projects through policy action can be a key event which can aid such an improvement. Improved Funds Availability: Better availability of funding (both debt and equity) and lower interest rates, leading to deleveraging and an increase in interest coverage may also lead to a revision in the outlook to stable. India Ratings expects companies with prudent growth strategies and those which have been able to generate equity to fund investment in BOT projects to continue to have stable credit www.indiaratings.co.in 11
profiles. Also pure construction companies would be better placed to withstand working capital pressures and may have better liquidity and relatively strong credit profiles. Key Issues Order Inflows While order books continued to grow, order inflows stagnated during 2012. India Ratings expects order books to continue to be stagnant in 2013. Order inflows from the power sector are expected to be slow due to continued uncertainty regarding fuel availability. India Ratings expects continued order inflows from the transportation and infrastructure segments for 2013. The government has announced ambitious targets for award of orders in these sectors. However, the award process has been slow till now and a policy push is required by the government to expedite project awards. National Highway Authority of India s ( IND AAA /Stable) announcement of cash contracts is also a positive move for the industry. Figure 2 Order Execution While order books continue to be strong, this has not translated into revenue growth due to execution delays. Delays are seen in the execution of newly bagged projects due to delays in obtaining forest, environment and other governmental clearances and land acquisition issues. Ongoing projects are also exposed to delays due to inadequate funding of projects. Disagreements over interpretation of terms such as the escalation clauses built into EPC contracts have also led to delays in the clearance of bills in many government projects. Infrastructure projects are delayed due to continued delays in obtaining environment and other clearances and power projects are also hampered due to inadequate fuel availability. While the government has announced a Cabinet Committee on Investment to expedite large energy and infrastructure projects, the success of this proposal is yet to be seen. A successful implementation of this proposal is likely to improve order execution by expediting various approvals required for projects. BOT Funding Issues Even while various central and state government agencies continue to award projects on BOT basis, public as well as private sources of equity have dried up. Inability to fund the equity portion of the project cost is delaying debt closure, as banks are increasingly cautious in lending to such projects unless all approvals as well as equity are in place. Funding of equity through debt at the parent level is negatively impacting credit profiles and also leading to deterioration in liquidity. This is likely to continue in the medium term. Construction companies have also indicated their intention to divest completed projects to raise funds for investment in new projects. However, this is proving difficult due to the underperformance of such projects because of aggressive forecasts in the bidding stage and 2
consequent strained returns. Furthermore, aggressively bid projects are also finding it difficult to achieve financial closure, both on the debt and equity fronts, due to concerns about viability. The government s continued emphasis on public-private partnership projects in the infrastructure sector in the Twelfth Five-Year Plan suggests that companies in this sector will still have to look at larger BOT portfolios for achieving growth in the medium term. India Ratings will continue to monitor BOT portfolios with regard to equity commitments for these portfolios and the ability of the sponsor companies to fund this commitment by raising fresh equity or through sale of completed projects. Working Capital The working capital position of construction companies is deteriorating. Work-in-progress has been piling up due to delays in obtaining certification of work from clients and disputes about work done. Receivables are also increasing due to inadequately funded projects and disputes about escalation bills and changes in the scope of projects. Delays in funding of equity for BOT projects is also likely to lead to stretched working capital at the parent level, who are also generally the EPC contractors for projects. This increase in working capital is leading to a stretched liquidity position for construction companies, reflected in their high use of working capital facilities. Working capital position will improve through faster execution, which in turn may be due to a policy push from the government and also through an improvement in funding availability. Figure 3 Deteriorating Credit Metrics Increasing leverage The increase in usage of working capital debt and the funding of equity portion of BOT projects through debt at the parent level has led to increase in leverage. The leverage position is expected to deteriorate further for companies with large unexecuted BOT portfolios with substantial equity requirements. Figure 4 3
Continued High Interest Rates The continuance of high inflation and the consequent high interest rates during 2012, along with an increase in leverage has led to a sharp drop in interest coverage metrics. It has also impacted the financial viability of BOT projects and is leading to delays in financial closures. Figure 5 A drop in interest rates will be beneficial to the sector, as it will ease interest burden and improve debt service coverage. Stable EBITDA Margins EBITDA margins remained stable during 2012 and are likely to remain stable during 2013. Construction contracts with escalation clauses will mitigate any fluctuations in prices of materials. However, companies seeing revenue contraction due to execution problems may see a fall in margins. Figure 6 4
Conclusion India Ratings believes that companies which have bid aggressively to build large order books have seen deterioration in their financial positions and stressed liquidity. Unless availability of funds improve and pace of execution increases, credit metrics are likely to deteriorate further. However, companies which have demonstrated prudent growth policies by preferring quick execution over an increase in order book, and hence bid less aggressively for projects, may see their financial positions remaining stable or improving. 2012 Review India Ratings affirmed a majority of corporate ratings in the construction sector during 2012. However, Singan Projects Ltd and Nandini Impex Private were downgraded to IND D from IND BB and IND B+, respectively. Also, IVRCL and Hindustan Dorr-Oliver were downgraded to IND BBB+ and IND BBB from IND A+ and IND A, respectively, due to deterioration in financial profile and stretched liquidity. The Outlook on B.G. Shirke Construction Technology Pvt. Ltd was revised to Negative from Stable and that on Capital Power Infrastructure to Stable from Positive, due to higher-than-expected leverage position resulting from increased working capital cycle. In view of improved financial performance and credit metrics, India Ratings upgraded EMC to IND A- from IND BBB+ and revised Sri Avantika Contractors (I) s Outlook to Positive from Stable. J Kumar Infraprojects Ltd s Outlook was revised to Positive from Stable due to the company diversifying into projects with higher complexity which would help the company to achieve higher and more stable operating margins on a sustained basis. G.E.T. Power s Outlook was revised to Stable from Negative due to lower-than-expected deterioration in credit metrics. 5
Appendix 1: Comparison of Key Ratios of Rated Issuers Figure 7 Peer Comparison IOT Infrastructure & Energy Services Ltd Tata Projects SEW Infrastructure IRB Infrastructure Developers J Kumar Infraprojects Ltd IOT Anwesha Engineering & Construction Ltd IOT Engineering Projects B.G. Shirke Construction Technology Pvt Ltd Sunil Hi-tech Engineers Issuer EMC Long-Term Issuer IND AA-/ IND AA-/ IND A+/ Stable IND A-/ Stable IND A-/ IND A-/Stable IND A-/Stable IND A-/ IND A-/Stable IND BBB+ IND BBB+ IND BBB+ rating/outlook Stable Stable Positive Negative /Stable /Stable /Stable Statement date FY11 FY11 FY12 FY12 FY12 FY11 FY12 FY12 FY12 FY12 FY12 FY12 (15m) Revenue 12,476 31,564 20,745 31,330 9,316 1,638 4,117 15,492 12,063 9,578 12,426 61,780 Operating EBITDAR 2,620 2,992 2,609 13,757 1,500 316 521 2,027 1,591 1,168 1,676 5,011 Interest expense 449 307 1,039 5,505 366 37 125 885 726 515 659 5,055 Net income 568 1,813 832 5,059 681 153 220 917 569 293 663 181 Total adjusted debt 5,672 410 11,374 70,722 1,706 195 1,078 7,841 1,825 2,711 5,904 32,967 Cash and equivalent 1,843 1,548 1,456 3,076 516 102 29 232 139 535 340 874 Op. EBITDAR/revenue (%) 21.00 9.48 12.57 43.91 16.10 19.31 12.65 13.08 13.19 12.20 13.49 8.11 Op. EBITDAR/interest 5.84 9.73 2.51 2.50 4.10 8.62 4.17 2.29 2.19 2.27 2.54 0.99 expense (x) Total adjusted debt/op. 2.17 0.14 4.36 5.14 1.14 0.62 2.07 3.87 1.15 3.32 3.52 8.22 a EBITDAR (x) Adjusted debt net of 1.46-0.38 3.80 4.92 0.79 0.29 2.01 3.75 1.06 2.86 3.32 8.01 a cash/op. EBITDAR (x) Order book 29,242 73,444 135,200 94,949 39,500 3,600 6,951 48,800 40,130 17,234 38,240 263,650 Order book to revenue (x) 2.3 2.3 6.5 3.0 4.2 2.2 1.7 3.1 3.3 1.8 2.6 5.3 a a Annualised Source: Company, India Ratings GVR Infra Projects IVRCL 6
Appendix 2: Construction Companies Rated by India Ratings Figure 8 Rated Issuers Issuer Long-Term Issuer Rating Outlook IOT Infrastructure & Energy Services Ltd IND AA- Stable IND A1+ Tata Projects IND AA- Stable IND A1+ SEW Infrastructure IND A+ Stable IND A1+ IOT Utkal Energy Service IND A Stable IND A1 IRB Infrastructure Developers IND A- Stable IND A1 J Kumar Infraprojects Ltd IND A- Positive IND A1 IOT Anwesha Engineering & Construction Ltd IND A- Stable IND A1 IOT Engineering Projects IND A- Stable IND A1 B.G. Shirke Construction Technology Pvt Ltd IND A- Negative IND A2+ EMC IND A- Stable IND A2+ IVRCL IND BBB+ Stable IND A2+ Sunil Hitech Engineers IND BBB+ Stable IND A2+ GVR Infra Projects IND BBB+ Stable IND A2 Hindustan Dorr-Oliver IND BBB Negative IND A3+ Fabtech Projects & Engineers Ltd IND BBB Stable IND A2 G.E.T Power Private IND BBB Stable IND A3+ Supreme Infrastructure India Ltd IND BBB Stable IND A3 Sri Avantika Contractors (I) Ltd IND BBB- Positive IND A3 VPR Mining Infrastructure Private IND BBB- Stable IND A3 Raghu Infra Private IND BBB- Stable IND A3 Savvy Projects Pvt Ltd IND BBB- Stable IND A3 Kamladityya Construction Pvt Ltd - - IND A3 Siva Swathi Constructions Private IND BB+ Stable IND A4+ Triveni Engicons Pvt. Ltd IND BB+ Stable IND A4+ Tribeni Constructions IND BB+ Stable IND A4+ Coramandel Infrastructure Private IND BB+ Stable IND A4+ NRP Projects Pvt Ltd IND BB+ Stable IND A4+ Ksheeraabd Constructions Pvt. Ltd. IND BB+ Stable IND A4+ Raj Infrastructural Technologies India Pvt. Ltd. IND BB+ Stable IND A4+ Raj Infrastructure Development India Pvt. Ltd. IND BB+ Stable IND A4+ Raj Infrastructure Pvt Ltd. IND BB+ Stable IND A4+ Raj Promoters & Civil Engineers Pvt. Ltd. IND BB+ Stable IND A4+ Srinivasa Construction Corporation Pvt Ltd IND BB Stable IND A4+ Indus Projects Private IND BB Stable IND A4+ Bharat Construction IND BB Stable IND A4+ Bharat Hydel Projects Private IND BB Stable IND A4+ Capital Power Infrastructure Private IND BB Stable IND A4+ SVS Mookambika Constructions Pvt Ltd IND BB Stable IND A4+ SMS Infrastructure IND BB Stable IND A4+ Grotech Landscape Developers Pvt Ltd IND BB Stable IND A4+ Delta Construction Systems IND BB- Stable IND A4+ Nav Bharat Buildcon Private IND BB- Stable IND A4+ GMS Elegant Builders (I) Pvt ltd IND BB- Stable IND A4+ RSV Constructions Pvt. Ltd. IND BB- Stable IND A4+ Railone Projects Private IND BB- Stable IND A4+ Rajshekhar Constructions Private IND B+ Stable IND A4 Macons Infratech Private IND B+ Stable IND A4 Ragmet Engineers Private IND B Stable IND A4 Nandini Impex Private IND D - IND D Singan Projects IND D - IND D Source: India Ratings Ratings on shortterm instruments 7
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