Weak execution takes a toll on Sadbhav Engineering

Investor sentiment towards construction stocks will be subdued as demonetization could stall the pace of construction for a few quarters, or until liquidity in the system eases


Already, the effect of demonetization has raised a red flag over construction stocks, especially those with high exposure to roads. Graphic by Ajay Negi/Mint
Already, the effect of demonetization has raised a red flag over construction stocks, especially those with high exposure to roads. Graphic by Ajay Negi/Mint

Mid-sized construction firm Sadbhav Engineering Ltd missed the Street’s forecast for the September quarter on all fronts.

On the face of it, the weak performance appeared to stem from the poor pace of execution and billing in the company’s infrastructure projects.

This is mirrored in the Rs615.6 crore stand-alone revenue that fell short of Bloomberg’s 12-analyst average by one-fifth the estimate. It also slipped by about 18% from the year-ago period.

This could be due to heavy rainfall in some regions that delayed the pace of execution.

While the management is yet to explain the dismal September quarter performance, it did mention at the end of the June quarter that payments to be received for some new road and legacy irrigation projects were delayed.

Not surprisingly, the expenses ate into operating profit that came in lower than forecast and substantially lower than the previous year. In spite of these problems, the firm managed an operating margin of 10.6%.

Meanwhile, interest costs rose both from the year-ago period and the June quarter. This was after adjusting for interest earned on loans given to subsidiaries.

Sadbhav Engineering is among those infrastructure construction firms that have had a good run—in terms of order inflows, revenue and profitability growth—until the last couple of quarters. Finally, net profit at Rs18.5 crore was half of what the Street had pencilled in.

The Sadbhav Engineering stock reacted adversely, closing 2% lower at Rs270 on BSE on Monday. The company has gained from robust ordering activity in road and irrigation projects, and a capable management and its competitive pricing strategy. It is now on a firm footing with an order book that gives it a two-year revenue visibility.

But this does not protect it from macroeconomic risks. Already, the effect of demonetization has raised a red flag over construction stocks, especially those with high exposure to roads. Toll revenue was the lifeline for some of these firms, which will recede as toll charges have been waived to accommodate for the cash crunch post demonetization. Surely, this will affect December quarter revenue, given that a move to compensate these firms for loss of revenue may aid revenue with a lag.

So, for a few quarters ahead, investor sentiment towards construction stocks will be subdued as demonetization could stall the pace of construction for a few quarters, or until liquidity in the system eases.

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