BackSlowdown in NHAI orders pose long-term risk for road developers
Higher interest costs are putting pressure on the profitability of road construction firms
Premium(Pradeep Gaur/Mint)
Shares of companies that build roads, including those of IRB Infrastructure Developers Ltd and IL&FS Transportation Networks Ltd (ITNL), have underperformed the BSE benchmark Sensex since the beginning of this fiscal year. That’s unsurprising, given that higher interest costs are putting pressure on the profitability, even as the number of road projects being awarded by the National Highways Authority of India (NHAI) has declined.
There are several reasons for the slow pace of NHAI. In a note to clients last week, analysts from Kotak Institutional Equities said these include “already awarded projects failing to make progress (80% of projects awarded during FY12 await financial closure, 50% past contractual deadline) on the back of stringent conditions put forth by banks, execution issues led by land acquisition and environment clearance delays, slowing traffic growth, lower interest level with several projects now not receiving bid interest and slower land acquisition as sellers hope for better compensation once the land Bill is cleared."
Indeed, banks do not seem to be keen to lend to road developers; bank loans outstanding to companies in the business rose 7.8% between April and September as compared with 11.9% in the same period last year.
This is not a good sign as it increases uncertainty in the sector and raises questions on revenue visibility. Still, some analysts say the constraints have led to less aggressive bidding, which could lead to some rationality in the bids, which in turn would eventually help companies in terms of better margins or internal rates of return (IRRs). Then, the awarding activity is expected to become even slower as interest in bidding wanes.
In the near term, though, all is not lost. Many companies are sitting on good order books, which offer revenue visibility for the next few quarters. For instance, IRB had an order book of about ₹ 9,495 crore as on 30 September and ITNL had an order backlog of about ₹ 10,900 crore. Both companies posted decent financial performance in the last quarter. IRB saw its total revenue increase by about 15% on a year-on-year basis in the September quarter and ITNL’s revenue increased by 9%, slightly below expectations, but that doesn’t really look bad in the current environment.
A general concern for infrastructure companies has been higher interest expenses. Lower interest rates would help. As far as individual stocks are concerned, IRB’s sharp underperformance, largely on account of the controversy about its alleged involvement with businesses run by Bharatiya Janata Party president Nitin Gadkari, does make its valuations look attractive, although the negative news flow has continued to dog the stock despite the company’s strong business model.
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