Ambit_Infrastructure_Roads_Thematic_Who’s gonna drive me home_31Mar2015

INFRASTRUCTURE -ROADS

March 2015

Analysts:

Who’s gonna drive me home ?

Nitin [email protected]: +91 22 3043 3241

Dalal

Street

How is the Road ahead?

2010 - 2015

Vaibhav [email protected]: +91 22 3043 3261

Achint [email protected]: +91 22 3043 3178

Infrastructure - Roads

March 31, 2015 Ambit Capital Pvt. Ltd. Page 2

CONTENTS

SECTORS

Who’s gonna drive me home?……………………………………………………… 3

Roads: A real or perceived opportunity?…………………………………………...4

A walk through India’s BOT journey ……………………………………………….5

Is it different this time?………………………………………………………………13

Learnings from the global experience …………………………………………….25

Only ‘Good and Clean’ companies create wealth………………………………27

The ‘Good’ and ‘Clean’ filter……………………………………………………….28

Relative valuation…………………………………………………………………….33

Ashoka vs Sadbhav…………………………………………………………………..35

COMPANIES

Sadbhav Engineering (BUY)…….…………………………………………………..41

Ashoka Buildcon (BUY)………………………………………………………………59

Ambit Capital and / or its affiliates do and seek to do business including investment banking with companies covered in its research reports. As a result, investors should be aware that Ambit Capital may have a conflict of interest that could affect the objectivity of this report. Investors should not consider this report as the only factor in making their investment decision.

Who’s gonna drive me home? The potentially large Indian roads opportunity has been volatile and remains elusive. The Government’s target of ~20,000kms of road awards in the next two years will largely be EPC contracts, due to muted PPP interest (with developers and financers facing funding constraints). Recent PPP bids failed to attract bidders (2-3 at best and the winners bid aggressively); and EPC bidding also remains aggressive from regional players. In this backdrop, investors should focus on companies with disciplined execution and cash generative road assets where NAVs could improve from traffic recovery, interest rate reductions and financial re-engineering possibilities. We urge investors to avoid the ‘value trap’ of poor-quality infra companies and to stick to relatively better quality names; Ashoka Buildcon is our preferred bet followed by Sadbhav Engineering. Indian roads opportunity – Flatters to deceive Poor project planning, regulatory hurdles, politicians’ rent-seeking intent and financial/bidding indiscipline of developers not only led to poor road construction but also destruction of capital. As PPP gathered momentum, contractors raised equity to pursue asset development and bid aggressively (22 bidders per road vs 5-10 earlier) with high premium commitment. Subsequently, ~4,400kms awarded in FY10-12 have been terminated and ~5,000kms awarded in FY07-10 are either stuck or delayed.

Recovery to be not as quick as the announcements The Government’s initiatives and announcements (doubling of roads outlay, improving bidding terms, etc) show intent; however, structural hindrances, such as poor project planning, balance sheet stress of developers (5x debt/equity vs 1.0x in FY08) and high NPAs of PSU banks (13% of loan book vs 2% in FY08), persist. EPC is a near-term fix (accounting for three-fourths of project awards in the last 15 months) but recent awards suggest rising competition from regional players in sub-`5bn contracts. The PPP opportunity would remain limited to a few sensible developers; recent BOT tenders have seen muted interest (2-3 bidders) and the awards suggest sub-10% IR`.

Avoid the ‘value trap’; focus on ‘Good and Clean’ Recovery hopes have been followed by increasing affinity of developers towards the capital markets (`37bn QIP money raised and three IPOs filed in the last 12 months). We urge investors to avoid seemingly attractively valued companies (value traps) with poor balance sheets and stick to high-quality developers with strong execution capability, credible managements with bidding/financial discipline. We suggest Ashoka Buildcon (39% upside) and Sadbhav Engineering (14% upside) to play the sector’s recovery.


THEMATIC March 31, 2015

Key Recommendations*

Sadbhav Engineering BUY

Target Price: ̀ 383 Upside : 14%

Ashoka Buildcon BUY

Target Price: ̀ 234 Upside : 39%

*Updated as on 27 March 2015

Recovery hopes drove a sharp re-rating

Source: Ambit Capital research

Analyst Details

Nitin Bhasin Tel: +91 22 3043 3241 [email protected]

Achint Bhagat Tel: +91 22 3043 3178 [email protected]

Vaibhav Saboo Tel: +91 22 3043 3261 [email protected]

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Ashoka SadbhavIRB ITNL

Only a few road developers are worth considering

Company, Ambit Capital research; Note: Bubble size denotes Consolidated Debt/Equity

POSITIVE



Roads: A real or perceived opportunity? The Roads sector is undeniably a large infrastructure opportunity in India, given the deficit of national highways (only 1% of overall roads), the requirement of 4-6 laning of old highways to enable faster movement of traffic, and refurbishment and construction of state highways. Investment in roads had tripled in the 11th Five-year Plan and the budgeted outlay on road investments in national/state highways in the 12th Five-year Plan has doubled to `4.5trn.

Whilst the roads sector promises to be a large opportunity, the last two decades have been volatile, with periods of strong order awards and increasing bidding aggression (and ambition), followed by periods of poor planning, tepid awards, increasing disputes and subsequent bankruptcy of multiple road developers.

Exhibit 1: Phase VI and VII of the National Highways Development Project (NHDP) yet to kick-start

Particulars Unit I II III IV V VI VII Total

Total length Km 7,980 7,142 12,109 14,799 6,500 1,000 700 50,230

Completed till date Km 7,616 6,305 6,214 610 1,869 - 22 22,636

Completion rate as % of total % 95.4 88.3 51.3 4.1 28.8 - 3.1 45% Completion from April 1, 2014 to 31/05/2014 Km 43 23 116 127 50 - 0 359

Under implementation Km 364 420 4,210 5,246 2,212 - 19 12,471 Under implementation as % of total % 4.6 5.9 34.8 35.4 34 0 2.7 25%

Balance length for award Km 0 417 1,685 8,943 2,419 1,000 659 15,123 Balance length for award as % total % 0 5.8 13.9 60.4 37.2 100 94.1 30%

Cost incurred ` bn 427 645 818 72 284 1 16 2,263

Source: Crisil, SIPL DRHP, Ambit Capital research

Exhibit 2: Nearly 80% of roads in India are rural roads (3.3mn kms, of which only 2% is national highway)

Source: NHAI, Ambit Capital research

Exhibit 3: Shift from double to four/six laning is an opportunity for road developers

Source: Company, Ambit Capital research

0.01% 2.1% 3.9%

14.1%

80%

Road network in India

Expressways

NationalHighways

State Highways

Major Districtroads

Rural and otherroads

24.4%

51.4%

24.2%

Single Lane

Double Lane

4 /6 Lanes



A walk through India’s BOT journey Road construction in India gathered pace with the acceptance of the BOT model and start of the National Highways Development Programme (NHDP) in 1998. The evolution of the sector in the last two decades was marked by significant changes in the regulatory framework, the model concession agreement taking shape, and growing interest of private developers in the sector. However, in the last 3-4 years, procedural hindrances and aggressive bidding have dented the balance sheets of road developers and have led to rising NPAs of banks (and hence aversion to lend) along with a sharp rise in stuck road projects. The NDA Government has prioritised the revival of the roads sector (initially through the EPC route) and has significantly increased the allocation on road construction (`856bn vs `379bn in FY13).

Exhibit 4: Over 14,000 kms were awarded during FY10-12 (post the BK Chaturvedi Committee’s recommendations)

Source: NHAI, MORTH, Ambit Capital research

1992-1994: Easing the entry of private players The Government allowed levying fees for services rendered in relation to roads. For instance, use of certain bridges, tunnels, etc, were made chargeable to the user in 1992 to generate capital for investments in roads.

In 1994, the Government eased the entry of private players by facilitating borrowing, reducing custom duties on construction equipments and allowing large firms to enter the industry.

0

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1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Roads awarded under PPP (Kms) Cumulative PPP road awards (Kms)

Start of BOT project awards under NHDP

PPP gained some momentum under NHDP Phase II

First large BOT project award:Jaipur-Kishangarh

Committee oninfra, birth of the MCA

Phase IIIto VII of NHDP launched

Aggressive bidding and rising order awards

Fall in project awards due to clearance issues, poor health of developers



1995-1997: Establishment of the NHAI In 1995, the Government amended the National Highways Act and set-up the NHAI. The Government of India (GoI) constituted an Expert Group in October 1994 to consider issues related to the commercialisation of infrastructure projects. The report concluded that the funds required to improve road infrastructure cannot be met by budgetary allocation alone. Consequently, the Government amended the National Highways Act so that it could enter into an agreement with external parties for the development and maintenance of national highways. Furthermore, the National Highways Authority of India was formed as an autonomous agency to invite road project bids and awards.

In 1997, the Government allowed the NHAI to partner with private players through special purpose vehicles. Exemption of land acquisition for national highways from the Land Acquisition Act and basing fee rules on the Wholesale Price Index were other major developments

Exhibit 5: List of the first few BOT projects awarded by the NHAI Sr. Name of Project State Length (kms) Cost

(̀ mn) Concession period Construction Period Date of signing

1 Rau Pithampur Madhya Pradesh 11.5 NA NA NA Nov-93

2 Thane Bhiwandi bypass Maharashtra 24 1,030 18 years 6 months 36 months Dec-95

3 Udaipur Bypass Rajasthan 11 240 11 years 8 months 18 months Jul-96

4 Chalthan ROB Gujarat NA 100 41 months 22 days 18 months Sep-96

Source: Ambit Capital Research

1997-2000: Formation of NHDP The National Highway Development Programme (NHDP) was established in FY98. This was a landmark move in the sector, with the NDA Government’s announcement of the first two phases of NHDP: the golden quadrilateral (connecting four metros) and four laning of the North-South and East-West corridors. The below list contains a few large contracts that were awarded during this phase.

Exhibit 6: Number of projects awarded by NHAI significantly higher than the last stage

Sr. Name of Project State Length(kms) Cost (̀ bn) Concession period Construction Period (months) Date of signing

1 Six bridges Andhra Pradesh NA 500 19 years 60 days 48 Apr-97

2 Coimbatore bypass Tamil Nadu 33 900 32 years 24 Oct-97

3 Second Narmada bridge Gujarat NA 1,130 15 years 36 Nov-97

4 Durg bypass Madhya Pradesh 18 680 32 years 6 months 30 Nov-97

5 Nardhana ROB Maharashtra NA 340 15 years 10 months 36 Nov-97

6 Patalganga river bridge Maharashtra NA 330 17 years 9 months 33 Nov-97

7 Hubli Dharwar bypass Karnataka 30 680 26 years 42 Feb-98

8 Nellore bypass Andhra Pradesh 18 730 31 years 6 months 30 Feb-98

9 Koratalaiyar bridge Tamil Nadu NA 300 9 years 11 months 24 Oct-98

10 Khambatki Ghat tunnel and road Maharashtra 8 380 9 years 9 months 24 Nov-98

11 Nasirabad ROB Maharashtra NA 100 10 years 11 months 12 Nov-98

12 Wainganga bridge Maharashtra NA 330 18 years 9 months 30 Nov-98

13 Mahi bridge Gujarat NA 420 7 years 8 months 18 Nov-98

14 Kishangarh bypass and ROB Rajasthan NA 170 51 months 15 Nov-98

15 Watrak bridge Gujarat NA 480 11 years 25 Mar-99

16 Moradabad bypass Uttar Pradesh 18 1,000 NA 38 Apr-99

17 Derabassi ROB Punjab NA 360 7 years 5 months 24 Sep-99




2000-2005: PPP gained momentum Lack of a formal agreement document led to disputes and little clarity on terms and hence BOT contracts failed to pick up under the Golden Quadrilateral (only 13 were BOT of the 128 projects awarded). However, PPP gained momentum in NHDP phase II, with 36 of the total 194 projects being awarded under the PPP route.

2002 - First large BOT order; draft model concession agreement (MCA): The NHAI formed two draft MCAs for projects more and less than `1bn. The first large BOT project (Jaipur-Kishangarh; cost of `7.29bn) was awarded to GVK.

2004 - Set-up of Committee on Infrastructure (CoI), Inter Ministerial Group (IMG); birth of the MCA: The COI and IMG were set up to examine the MCA. Post some revisions, the MCA was established as the framework for road projects in India. As per the guidelines, a road project had to be compulsorily awarded under the BOT (toll) mode and if it failed to garner interest from developers, only then it would be bid out on a BOT (annuity) basis. EPC contracts were the least favoured under the guidelines.

2005 - Phase III-VII of the NHDP: The Planning Commission and NHAI strengthened the framework for BOT project awards. MCAs were modified with segregation made for PPP in state highways, national highways and operation and maintenance. Several other documents like model request for proposal (MRP) and model request for qualification (MRQ) were published to strengthen the PPP framework.

Exhibit 7: National Highway Development Project announced by the NDA headed by Atal Bihari Vajpayee

Phase Approved on Length (km) Project details

Phase I Dec-00 7,498 Four/six/eight laning of NH mainly on the Golden Quadrilateral

Phase II Dec-03 6,644 NH of the North South Corridor and East West Corridor to be widened to four/six lane facility

Phase III – A Mar-05 4,035 Up-gradation of existing NH to two lane with paved shoulders/ four /six lane having high traffic density, connecting important tourist locations, economically important areas, state capitals, etc Phase III – B Apr-07 8074

Phase IV Oct-06 20,000 Widening of existing single /intermediate/two lane highways to two lane with paved shoulders

Phase V Mar-05 6,500 Six laning of NH which includes 5,700 km of GQ and other stretches

Phase VI Nov-06 1,000 Expressways

Phase VII Dec-07 700 Construction of standalone ring roads /bypasses as well as grade separators, flyovers, elevated road, tunnels road over bridge, under passes, etc.

Source: Ambit Capital Research

Exhibit 8: Major projects during 2001-2006

Sr. Name of Project State LOA Length (kms) Cost (̀ bn)

1 Nellore - Tada Andhra Pradesh Aug-01 111 6.2

2 Satara Kagal Maharashtra Feb-02 133 6.0

3 Delhi - Gurgaon Delhi / Haryana Apr-02 28 7.1

4 Vivekananda Bridge and Approach West Bengal Sep-02 6 6.4

5 Mahapura(Jaipur) - Kishangarh Rajasthan Apr-03 90 6.4

6 Dhule-Pimpalgaon Maharashtra Mar-05 118 5.6

7 Gonde-Vadape (Thane) Maharashtra Jun-05 100 5.8

8 Tindivanam - Ulundurpet Tamilnadu Feb-06 73 4.8

9 Hyderabad Bangalore section Andhra Pradesh Feb-06 75 5.9

10 Madurai-Arupukottai-Tuticorin Tamilnadu Feb-06 128 6.3

11 Gwalior-Jhansi Madhya Pradesh May-06 80 6.0

12 Vadodara to Bharuch Package Gujarat Jul-06 83 6.6

Total 1,025 73.2


Rising awards under PPP, the major one being Jaipur-Kishangarh of GVK



2006-09: Rising excitement and raising funds During this phase, the Government gave impetus to road development through the introduction of viability gap funding and tax SOPs and 4,291kms of PPP orders were awarded during FY06-09 (3x the cumulative order awards over FY99-05). Rising excitement of the roads opportunity resulted in multiple EPC companies raising equity to pursue asset development aspirations.

Shift from negative grant to revenue sharing: Earlier projects were bid out on a negative grant (upfront amount paid by the concessionaire to the Government), which was later changed to revenue sharing, as procuring debt for projects with large upfront payments was difficult. Incrementally, more and more projects were bid out on revenue sharing (premium) as compared to negative grant (premium) earlier.

Viability Gap Funding (VGF) introduced

VGF was introduced for projects with little developer interest. This was for roads on non-traffic-intensive routes which generated low toll income. Under this provision, the Government could pitch in and meet a portion of the cost, making the project viable.

Section 80CCF

Section 80CCF was introduced under which an investment in NHAI bonds were eligible for a deduction up to `20,000.

Flurry of IPOs and private equity placements As the implementation of the NHDP programme gathered pace by FY05-09, several construction companies raised equity (either PE or through an IPO). Majority of these companies were construction companies with execution experience but not asset managers and hence they started bidding aggressively with the cash raised.

Exhibit 9: US$2.7bn has been infused in the roads sector through private equity

Source: Venture database, Ambit Capital research

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300

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500

600

700

FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13

(USD mn)(USD mn)

PE Inv in roads Cumulative PE Inv

Road contractors raised money from the capital market to pursue asset development aspirations



Exhibit 10: PE deals in the road sector greater than US$50mn over the last decade

Company Investors Amount (US$ mn) Stake (%) Date

Nagarjuna Construction Company Blackstone 150 8.85 FY07

SMS Shivnath Infrastructure IDFC Project Equity 55 48.4 FY07

Soma Enterprise 3i IIF 101 13.33 FY08

Oriental Tollways Infrastructure India PLC 90 49 FY08

Rithwik Projects Baring Asia 50 30 FY08

Sadbhav Infrastructure Project Norwest, Xander 85 22.2 FY10

IVRCL IFCI Ventures 55 FY10

Indus Concessions Morgan Stanley 200 50 FY11

Nandi Economic Corridor Enterprises JP Morgan 111 8.33 FY11

Soma Enterprise JP Morgan 110 FY11

KMC Infratech 3i IIF 97 36.5 FY11

TRIL Roads Actis 78 35 FY11

Nandi Economic Corridor Enterprises JP Morgan 65 8 FY12

Supreme Infrastructure India 3i IIF 61 49 FY12

HCC Concessions Xander 54.5 14.5 FY12

Ashoka Buildcon SPV SBI-Macquarie 150 34 FY13

TRIL Roads Tata Capital 84 35 FY14

Total 1,596

Source: Venture database, Ambit Capital research

Exhibit 11: Roads sector saw a flurry of IPOs during FY06-09

Source: Bloomberg, Ambit Capital research

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Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14IVRC stock price

IVRCL FPOGVK

Sadbhav

Patel

Unity Infra

GMR Lanco

Supreme InfraMaytas

IRB Gammon

MBL

ARSS Infra

Jaypee Infra

Ramky Infra

Ashoka Buildcon

KNR Cons

Gayatri

A2Z Engineering



2009-12: Rationality takes a back seat Road order awards fell sharply in FY09 (643kms vs the targeted 9,000 kms) post the global financial crisis and the BK Chaturvedi Committee recommended changes to revive interest. During FY10-12, the NHAI’s order award rose sharply and multiple players bid aggressively to boost their order book.

The BK Chaturvedi Committee was set up in 2009 for structuring the framework/financing for the NHDP. The committee proposed changes to the bidding documents and the MCA. The key proposals of the committee were:

a) Increase the common shareholding limit among consortium partners, and hence there was no lower limit on the equity that the original promoter had to hold

b) Allow concessionaire to augment capacity if the traffic exceeded the designated capacity for four consecutive years

c) Grant to be provided as equity support (cap at 40% of project cost; twice the concessionaire’s equity contribution)

d) Allow developers an early exit after completion

These amendments resulted in a sharp increase in road project awards during FY10-12 (over 14,000 kms awarded); however, with multiple developers having entered the fray (with their enhanced net worth through equity issuances), the bids became aggressive and most projects bid out were unviable.

Media excerpt from 2011

“Companies are going berserk while bidding. For some projects, where we participated in bidding, the internal rate of return is as low as one per cent,” said Mr Gurjeet Singh Johar, Chairman, C&C Constructions, which has an order book of `2,630 crore in the roads and highways sector.

The CEO of another company in the highways bidding space, declining to be identified, said, “Different firms bid for different reasons. Many are playing to the galleries (stock markets, PE players). Some have equipment that they don't want to remain idle. So, an aggressive bid helped.”

GMR Infrastructure won a `5,700-crore project running from Kishangarh in Rajasthan via Udaipur to Ahmedabad in the first mega highway on the offer of negative grant of ` 636 crore. NHAI has received an almost similar response in eight other projects as well. This project was terminated in FY13. Similarly, GVK terminated the road contract, won in Jan12— four laning of Shivpuri-Dewas of NH3— in Jan-13.

Even a couple of years ago, the only infrastructure sector that was doing well was roads — companies were racing to outbid each other for even small stretches of highway, traffic growth projections were in high double-digits and non-infra players were queuing up to enter the sector and get their share of the promised riches (returns of around 20%)

The conventional way of awarding road projects is that the NHAI offers up to 40% of the cost to developers as grants to make the project financially viable. As more and more players vied for the same projects, developers started quoting bids with either very low grant requirements or, in some cases, very high premium. Premium indicates the developer’s confidence that the toll revenue will be more than the project cost. But the confidence was clearly misplaced. “Some of us were very aggressive in bidding,” concedes Gurjeet Singh Johar, chairman, C&C Constructions.

Rising bidding aggression and project awards with negative IR`



Exhibit 12: Average bids per project increased to 30-35 over Aug10-Nov11


Exhibit 13: Rising order awards with premium as bidding aggression increased


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Aggressive bidding



2012-2014: Roads sector caught in the downturn Road order awards dropped sharply over FY12-14 on account of multiple issues such as: (a) poor financial health of developers (not only did the developers bid aggressively and bag non-viable projects, but several of the projects were stuck owing to procedural issues in land acquisition), (b) banks’ aversion to lend (given the sharp increase in stuck projects, banks were averse to lend to road infrastructure projects) (stressed assets of PSU banks increased to 13% of loan book in FY14 as against 2% in FY08); and (c) stalemate between the various stakeholders over clearances, procedures, cost escalation etc.

Exhibit 14: Debt/equity of the sector increased 5x over FY08-14

Source: Ace equity, Ambit Capital research. Note: Includes Debt/equity of 20 road developers in India

Exhibit 15: Increase in stressed assets of PSU banks

Source: Ace equity, Ambit Capital research

Exhibit 16: Annual credit to roads nearly quadrupled in five years

Source: Ace equity, Ambit Capital research

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PSU banks Private sector banks

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Several players’ balance sheets deteriorated and NPAs of banks rose sharply



Is it different this time? Whilst order inflows declined sharply in the last two years, the NDA Government has shown intent to revive the roads sector (evident from a 126% increase in allocations, the highest increase amongst infrastructure categories). We believe that initiatives could take time to fructify unless structural concerns (low viability, dispute resolution and poor financial health of developers and PSU banks) are ironed out. We maintain that roads are a relatively easier infrastructure jigsaw to solve for the Government, due to fewer challenges than sectors such as power (fuel availability). In the last 12 months, EPC awards have picked up, but BOT remains muted. We highlight that till now the recovery has been elusive and despite multiple positive announcements, we are yet to see a pick-up in order awards or improvement in bidding terms.

Exhibit 17: Allocation increase to roads is the highest amongst all infra sectors Allocation to Infrastructure (̀ bn) FY11 FY12 FY13 FY14 FY15 FY16 CAGR

FY11-16 Roads 273 297 354 399 379 856 26%

YoY increase 21 9 19 13 (5) 126 Railways 411 576 601 634 658 1,000 19%

YoY increase 1 40 4 5 4 52 Defence 600 692 796 867 946 945 10%

YoY increase 9 15 15 9 9 (0) Power 608 664 624 593 604 614 0%

YoY increase 15 9 (6) (5) 2 2 Total planned expenditure 1,892 2,229 2,374 2,493 2,587 3,415 13%

Source: Budget Documents, Ambit Capital research

Exhibit 18: 126% increase in allocation to roads

Source: Budget documents, Ambit Capital research

Below is an excerpt from the recent Union Budget speech:

“There is a pressing need to increase public investment. I have, therefore, increased outlays on roads and the gross budgetary support to the railways, by `14,031 crore, and `10,050 crore respectively. The CAPEX of the public sector units is expected to be ` 3,17,889 crore, an increase of approximately `80,844 crore over RE 2014-15. In fact, all told, investment in infrastructure will go up by `70,000 crore in the year 2015-16, over the year 2014-15 from the Centre’s Funds and resources of CPSEs”.

70.0%

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Exhibit 19: Recent announcements relating to roads

Particulars Announcements

Recent government statements on investments in road

The Government is likely to award projects totalling 8,000km worth `600bn primarily as EPC contracts in 4QFY15. These contracts promise a boost to the infrastructure companies facing problems of under-utilised or idle labour and equipment which will be further fuelled by Government initiatives to make cement and other raw materials available at discounted rates for these projects. Around 189 stalled highways projects worth `1800bn will be launched by August 2015 after removal of hurdles like delays in land acquisition, delays in forest and environment clearances, non-transfer of defence land and hurdles over railway over bridges. Plans for `10 trillion investment in highways and shipping sectors by 2019. Nitin Gadkari said, “My endeavour is to do work worth over `5 trillion in highways sector during my present tenure. Another `5 trillion will be invested in the shipping sector, taking the investments in both the crucial infrastructure ministries to `10 trillion."

New Financing models to help resolve the woes of Road developers

Flexibility to banks in changing structure of existing loans The RBI has allowed banks to change a loan repayment schedule to a 5/25 structure for the existing standard assets project loans, thereby providing flexibility to banks in reworking their under-stress 12-15-year loans in the form of 25-year loans. These measures are positive for banks and to a great extent will help in solving the cyclical cash flow mismatch issues faced by the infrastructure companies in fundamentally sound projects. Adoption of the HYRBID Model The Government is considering the adoption hybrid annuity model whereby it plans to pay a part of the capital cost at the commencement of the construction work and up to 10% of the project cost as a mobilisation advance. The hybrid model will also have a reference index with 70% weightage accorded to the WPI and 30% to the weekly CPI. In addition, 60% of the completion cost would be payable during the operation and maintenance period, and the reducing balance mode would be employed to pay interest at the rate of 2% plus the prevailing bank rate.

Budget - Highest allocation to the road sector

As compared to FY15, the Government allocated an extra sum of `1.3trn for public investments in FY16 (i.e. 0.9% of GDP). The Roads, Transport and Highways sector received the highest allocation.

Land Acquisition bill The recent Land Acquisition, Rehabilitation and Resettlement Bill passed by the Lok Sabha would further fuel growth for the infrastructure sector in India.


Exhibit 20: NHAI order awards have picked up marginally in FY15

Source: NHAI, Morth, Ambit Capital research

Exhibit 21: Road construction has stagnated in the last 3-4 years

Source: NHAI, Morth, Ambit Capital research

643

3,359

5,058

6,381

1,100 890

2,331

FY09

FY10

FY11

FY12

FY13

FY14

9MFY

15

NHAI order awards (Kms)

2,000

2,500

3,000

3,500

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150 200

250 300

350


Year wise invesstment (Rs. bn)

length constructed (km)- RHS

Year wise Investments (` bn)



Industry participants are buzzing (yet again!) Our discussions with multiple industry participants—NHAI, infra companies, equipment suppliers, and the NITI Aayog (the erstwhile Planning Commission)—suggest that roads is an easier problem to solve in Indian infrastructure due to fewer procedural (coal in power, clearances in urban infra) constraints. Below is an excerpt from the 3QFY15 earnings calls of road companies.

Exhibit 22: Companies sound enthused about the roads opportunity

Company Comments in the 3QFY15 earnings conference call

IRB With regard to the NHAI's bidding out of projects, if you go to the website you will see a significant number of projects which are now up at the RFP stage. So I believe going forward the order pipeline looks quite promising.

KNR NHAI has called for many bids right now. NHAI has already called for bids for above 45,000 crores over few months and bids will be awarded, many bids are also due in coming, let's say, the February as well in March. And we have almost participated in 4,000 crore worth of projects, and several projects we are expecting also, which are under pipelines.

MBL The NHAI and Ministry of Roads and Transports and Highways have set good target for awards of contract. We expect significant increase in the order book in the next two quarters.

Ashoka

We have witnessed renewed activities at NHAI in last quarter. NHAI commence the bidding process and few projects have been awarded on EPC basis. Bidding for few BOT projects is also linked up in this couple of weeks. The pipeline that is coming up for bidding is very strong. This year it is expected that NHAI will award around 4500 kilometre on EPC basis and 1500 kilometres on BOT basis. Next year definitely we can see around 10,000 kilometres bidding done by NHAI.

Sadbhav We have seen till date NHAI has awarded approximately 2,000 kilometres of road projects, majority of them in EPC segment; and many projects, which were scheduled for bidding in first week of February, have been slightly shifted to second and third week of the February. However, we see the flurry of contracts will be awarded in the month of February and March.


EPC – The near-term fix Whilst BOT has been the preferred mode of road order awards in India in the last decade, this model is struggling owing to financial constraints of developers and banks’ aversion to lend. The Government realises this and the Finance Minister in the FY16 Budget Speech mentioned, “The PPP mode of infrastructure development has to be revisited and revitalised. The major issue involved is rebalancing of risk. In infrastructure projects, the sovereign will have to bear a major part of the risk without, of course, absorbing it entirely”. Hence, we believe that EPC contracts would in the interim help revive the road sector, till the developers improve their balance sheet health to participate in the BOT opportunity. As shown in Exhibit 23, a few EPC orders have recently been awarded (albeit small-scale) and projects worth `566bn are in the RFP/RFQ stage.

Alongside NHAI, the Ministry of Road transport and highways (MORTH) has also begun awarding road contracts (largely sub-`5bn contracts and outside the NHDP programme) to revive the roads sector.

Exhibit 23: EPC contracts picking up, as BOT interest is fading


0

1000

2000

3000

4000

5000

6000

7000

FY96

FY97

FY98

FY99

FY00

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

9MFY

15

EPC awards (kms)

EPC awards (kms)

Order awards under EPC have picked up in recent months and would likely be the preferred mode in the next 12-15 months



Cess increase to fill NHAI coffers Road cess initiated by NDA for roads A road cess of ` 1.50 a litre was introduced by the NDA government under Atal Bihari Vajpayee in 2000. The main source of finance of NHAI for the implementation of various phases of NHDP is the fuel cess. Earlier a sum of `. 2.00 per litre was being levied as cess in the form of additional excise duty on both petrol and high speed diesel. The proceeds of the cess were first credited to the Consolidated Fund of India and the Central Government by appropriation credited such proceeds to the Central Road Fund (CRF) from time to time, after deducting the expenses of collection. The funds from cess are allocated for state highways, rural roads, ROBs and construction and Maintenance of National Highways by NHDP and Ministry of Road Transport & Highways. The funds allocated from the cess are leveraged by NHAI to borrow additional funds from the domestic market.

Road cess further increased by the NDA For 2015-16, the total collection under the Central Road Fund is expected to increase 86% to `431bn. This has been made possible because ` 3.49 (48% of the increase of ` 7.25 in excise duty since November 2014) has been shifted to road cess in the case of unbranded petrol and ` 3.36 for branded petrol. The government, however, has also moved about 50 paise a litre on petrol out of the education cess component and to road cess. The case is similar for diesel, too. The finance minister has taken ` 3.70 of the excise component in unbranded diesel and ` 3.63 in branded diesel to supplement road cess. Simultaneously, 30 paise and 37 paise (for unbranded and branded diesel, respectively) on account of education cess have been annulled but the amounts have been adjusted in higher road cess. The road cess has been increased from ` 2 to ` 8 for both the fuels, but the effective rate is ` 6 as of now. Our checks suggest that the NHAI can receive `142bn per rupee of cess and a further increase could significantly increase deployable cash flows for the NHAI. Clearly, if cess money was made available to the NHAI, then its funding issues would be less but over the long term; the concern remains that NHAI officials suggest that the past cess remains as receivables from the Government. The recent EPC project awards by NHAI, whilst could have longer working capital cycles, the funding visibility remains strong from cess.



Exhibit 24: Almost 2400kms have been awarded in EPC in the last 15 months

Name of Project State Length (kms) Cost (̀ mn) Contractor LOA Date

Madhugiri-Chikkaballapura-Mulbagal Karnataka 36 2,190 Ashoka Buildcon Mar-15

Hisar to Dabwali Haryana 57 5,798 GR Infra Mar-15

Hisar to Dabwali Haryana 88 6,954 GR Infra Mar-15

Ambala - Kaithal Haryana 51 4,602 Sadbhav Engineering Feb-15

Ambala - Kaithal Haryana 45 4,831 Dilip Buildcon Feb-15

Udhampur to Ramban UP 43 13,317 Gammon India Jan-15

Ramban to Banihal J&K 36 12,387 HCC Jan-15

Varanasi Bypass Uttar Pradesh 17 2,673 Apco Infratech Jan-15

Barmer - Sanchor Rajasthan 106 5,381 Monte Carlo Jan-15

Bijapur - Gulbarga - Hamnabad Karnataka 220 7,090 Larsen & Toubro Jan-15

Jodhpur Pokaran Rajasthan 139 4,556 GR Infra Dec-14

Chas -Ramgarh Rajasthan 78 3,416 Dilip Buildcon Dec-14

Ludhiana - Talwandi Punjab 6 466 Ceigall India Nov-14

Sitarganj Tanakur Uttarakhand 52 520 H.G. Infra Engineering Oct-14

Phalodi -Jaisalmer Rajasthan 161 5,615 Corson Corviam Construction Oct-14

Talchar -Dubari-Chandikhole Odisha 132 9,964 Corson Corviam Construction Oct-14

Patna - Gaya - Dhobi Bihar 127 10,270 ITNL Oct-14

Karaikudi - Ramanathapuram Tamil Nadu 80 4,516 Transtroy Oct-14

Jaisalmer-Barmer Rajasthan 131 4,823 GR Infra Jun-14

Chhapra-Rewaghat-Muzaffarpur Bihar 73 4,157 Supreme Infrastructure India Ltd Jun-14

Flyover at Bahalgarh Haryana 7 780 Gawar constructions May-14

Tirumayam - Manamadurai Tamil Nadu 78 4,011 Dilip Buildcon Apr-14

Jodhpur - Barmer Rajasthan 86 2,647 Sadbhav Engineering Apr-14

Jodhpur - Barmer Rajasthan 74 2,061 GR Infra Apr-14

Tanda-Raebareli Uttar Pradesh 156 4,958 GKC Projects Ltd Feb-14

Raebareli - Banda Uttar Pradesh 133 3,513 Contractora Sanjose S.A. Feb-14

Karauli Dholpur Rajasthan 101 4,252 Dilip Buildcon Feb-14

Padi-Dahod Rajasthan 86 2,791 Dinesh Changra Aggarwal Jan-14

Total 2,363 136,350 Source: Company, Ambit Capital research

Exhibit 25: 4,574kms road projects tendered by NHAI in the last few months

Type Kms Number of projects Cost ̀ bn

EPC 2,673 41 305

BOT 1,858 17 250

BOT Annuity 43 1 11

Total 4,574 59 566


BOT needs time to be re-invented PPP is a large long-term opportunity and given the fiscal restrictions of the Government, EPC is unlikely to be the only lynchpin of road construction in India.

However, we believe the stress of developers and concessionaires has led to little developer interest. We highlight that there were only 2-3 bidders in two recently won BOT projects.

Industry participants believe that the BOT model would require viable award terms, clearances and most importantly balance sheet bandwidth for infrastructure companies. Although the Government has tried to revive PPP interest through recent initiatives such as the ‘Hybrid BOT contracts - 40% Grant’ to limit the concessionaire’s capital commitment, we hear that developer interest remains subdued.

BOT interest remains muted; our checks suggest project viability needs to improve



We believe that the list of pre-qualified companies has dropped from 61 firms in FY14 to 36 firms in FY15 (likely to reduce further in FY16). Moreover, few pre-qualified players have the financial capability and the PPP appetite, which makes us believe that the aggression in the recent bids would be controlled.

Exhibit 26: Only 5 BOT projects have been bid out since April 2013

Sr. Name of Project State Length (kms) ` mn Agency Concession Period LOA Date

1 4 laning of Bikaner - Phalodi Rajasthan 160 8,229 IRCON NA Aug-14

2 4 laning of Aurangabad - Yedishi Maharashtra 190 18,713 IRB 26 Apr-14

3 4 Laning of Solapur - Yedishi Maharashtra 100 9,725 IRB 29 Dec-13

4 6 laning of Barwa Adda-Panagarh Jharkhand / West Bengal 123 16,650 ITNL 20 Apr-13

5 4 Laning of Khed - Sinnar Section Maharashtra 138 13,482 ITNL 20 Mar-13


Trying to clean the slate Note that 35% of the projects awarded during FY09-12 have been terminated (including the `72bn Udaipur-Kishangarh project of GMR, the largest-ever project awarded by NHAI), owing to issues in achieving environmental and forest clearances and owing to a cash crunch for developers. We believe that these projects need to bid out with more viable terms alongside land and environmental clearances.

Exhibit 27: Note that 35% of the projects awarded during FY09-12 have been terminated


0%

10%

20%

30%

40%

50%

-

1,000

2,000

3,000

4,000

5,000

FY09 FY10 FY11 FY12

Awarded (Kms) Terminated (Kms) % terminated (RHS)



Exhibit 28: Note that 33 projects worth ̀ 443bn have been terminated in the last two years

Name of Project State Agency LOA Date Length (kms) Cost (̀ bn)

Kishangarh-Udaipur Rajasthan GMR Jan-12 555 72

Four laning of Shivpuri-Dewas Madhya Pradesh GVK Transportations Sep-11 330 28

4-Laning of Amravati-Jalgaon Maharashtra L&T IDPL Mar-12 275 25

Six-Laning of Aurangabad-Barwa Adda Bihar / Jharkhand KMC Mar-12 221 23

4-Laning of Jalgaon-Maharashtra/Gujrat Border Maharashtra L&T IDPL Mar-12 209 20

Four laning of Jabalpur-Katni-Rewa Section Madhya Pradesh SOMA Tollways Aug-11 226 19 4/6 Laning of Maharastra/Goa Border - Panaji Goa/KNT Border Goa IVRCL May-10 139 19

4 Laning of Khagaria-Bakhtiarpur Bihar Navayuga Mar-12 113 16

Six-Laning of Gundugolanu Rajamundry Andhra Pradesh IVRCL Mar-12 121 16

Charthalai-ochira Kerala ISOLUX-SOMA Jan-10 84 15

4-lanning of Kannur Vengalem Kuttipuram Kerala KMC Jul-09 83 14

4-lanning of Kannur Vengalem Kuttipuram Kerala KMC Jul-09 82 13

4-Laning of Angul - Sambalpur Orissa Abhijit Roads Ltd Nov-11 153 12

4-Laning of Raipur - Bilaspur Chattisgarh IVRCL Nov-11 127 12

Agra-Etawah Bypass Uttar Pradesh Ramky Nov-11 125 12

KNT/Kerala Border to Kanuur Kerala Transtroy - OJSC May-10 127 12

4-Laning of Cuttack - Angul Orissa Ashoka Buildcon Nov-11 112 11

Hospet - Chitradurga Karnataka Ramky Nov-11 120 10

4 Laning of Solapur - Bijapur Maharashtra / Karnataka Sadbhav Mar-12 111 10

4 Laning of UP/Haryana BorderYamunanagar-Saha-Barwala- Panchkula Haryana Gammon Mar-12 107 9

4-Laning of Hospet-Bellary-Karnataka/AP Border Karnataka PNC - BF Utility Oct-11 95 9 Six-Laning of Anandapuram-VisakapatnamAnakapalli Andhra Pradesh Transtroy - OJSC Mar-12 58 8

Rampur - Kathgodam Uttaranchal ERA Infra - OJSC - SIBMOST Nov-11 93 8

Rehabilitation and Upgradation to Birmitrapur to Barkote Orissa Gammon May-12 126 8

Jabalpur to Lakhanadone Madhya Pradesh Gannon Dunkerley Jul-11 81 8

Vijayawada-Machhlipatnam Andhra Pradesh Madhucon Nov-11 65 6

4 Laning of Coimbatore-Mettupalayam Tamil Nadu Transtroy - OJSC Jul-12 54 6

Kota - Jhalawar Rajasthan Keti Construction Ltd Apr-11 88 5

Panji-Goa/Karnataka Border Goa IRB - MRM Jan-10 69 5

2 Laning of Jowai -Meghalaya/Assam Border Meghalaya Simplex Mar-12 102 4

2-Laning with PS Gopalganj-Chappra Bihar Abhijit Infrastructure Ltd Feb-11 92 3

Bhopal-Sanchi(Approved) Madhya Pradesh Pratibha Industries-Abhyuday Housing May-10 54 2

2 Laning of Forbesganj-Jogwani Bihar GPT-RDS Consortium Ltd May-10 9 1

Total 4,404 443




Multiple projects are still stuck… Over FY07-10, 6,876kms of projects were awarded under BOT, out of which 4,071kms are either stuck or delayed. The projects are stuck for want of capital or clearances. Note that, as per the recent Economic Survey, stuck projects account for nearly 7% of GDP.

Exhibit 29: 60% of the orders awarded during FY07-10 are stuck/delayed


…and so are the fortunes of developers Note that multiple road developers have an unmanageable debt both in the construction business and the asset holding entities and hence they do not have the bandwidth to commit equity in roads.

Exhibit 30: Sharp increase in leverage of most firms

Debt/equity (X) Standalone Consolidated

FY08 FY14 FY08 FY14

Gammon India 0.9 4.0 1.2 40.6

Lanco Infratech 0.8 0.9 1.7 25.2

Gayatri Projects 0.1 0.6 4.6 14.8

C&C Constructions 2.5 2.3 0.9 10.3

GVK Power & Infrastructure 0.5 1.1 0.7 8.1

Gammon Infrastructure Projects - 0.2 2.0 6.2

GMR Infrastructure 0.1 0.6 1.3 5.1

Sadbhav Engineering 1.4 1.1 1.9 4.5

Supreme Infrastructure India 0.6 1.0 0.9 4.1

IVRCL 0.5 1.6 0.7 4.1

IL&FS Transportation Networks 0.9 1.7 1.6 3.8

IRB Infrastructure Developers 0.7 2.8 1.2 3.1

NCC 1.0 2.2 1.0 3.0

Unity Infraprojects 0.7 0.2 0.8 2.8

Ramky Infrastructure 1.0 2.2 1.2 2.6

Ashoka Buildcon 0.3 2.1 1.6 2.5

Patel Engineering 1.1 0.2 1.4 2.5

MBL Infrastructures 0.8 2.3 1.8 1.8

A2Z Infra Engineering 0.3 4.4 0.8 1.5

KNR Construction 0.0 1.5 1.1 0.7


1395 1210643

3628

209

945541

2375

10%

30%

50%

70%

90%

110%

0

1,000

2,000

3,000

4,000

FY07

FY08

FY09

FY10

Awarded (Kms) Under Implementation till date (Kms)

% under implementation (RHS)



Regional players maintain bidding aggression Although the count of bidders have dropped significant (from 15-20 in FY11-12 to 2-5 in recent bids), an interesting observation is the stark difference in the L1 and L2 bids in project sizes less than `5bn.Our discussions with companies suggest that the recent BOT contracts were bid out with IR` as low as 6%, which raises questions on the sanity in bidding.

The reduction in the count of bidders can be explained by the poor financial health of developers and banks’ aversion to give them guarantees (a pre-requisite for bidding); and we believe the aggression in low-ticket orders is on account of regional contractors trying to win a few contracts. Our checks with industry experts suggest that the aggression would eventually wane, as ticket sizes of order awards increase and the smaller contractors grow their order book and vacate the bidding.

Exhibit 31: Although number of bidders has reduced, recent orders have seen aggression from the L1 bidder

Number of

bidders Client TPC

(̀ mn) L1 bidder L1 quote (̀ mn) L2 bidder L2 quote

(̀ mn) L1-L2 Diff Diff as a % of project cost

EPC Ambala - Kaithal section II 6

4,602 Sadbhav Eng 4,590 H.G. Infra 4,600 10.1 0.2%

Ambala - Kaithal section I 2

4,831 Dilip Buildcon 4,577 Sadbhav Eng 5,850 1273 26.3%

Ramban to Banihal section 2

12,387 HCC 17,694 Sadbhav Eng 17,834 140.2 1.1%

Udhampur to Ramban section 3

13,317 Gammon India 17,090 Sadbhav Eng 18,180 1090 8.2%

Hisar to Dabwali section II 6

6,954 GR Infra 6,480 Sadbhav Eng 7,547 1067 15.3%

Hisar to Dabwali section I 6

5,798 GR Infra 5,490 Sadbhav Eng 5,850 360 6.2%

Shahdol to MP/CG border 4

3,647 Dilip Buildcon 3,402 Sadbhav Eng 3,461 58.5 1.6%

Parwanoo to Solan 3 6,906 GR Infra 7,488 Sadbhav Eng 7,650 162.3 2.4%

BOT Raipur – Bilaspur 3

15,490 Essel Infra 4490 – Grant TRIL 5,450 – Grant Mukarba chowk – Panipat 5

21,290 Essel Infra 1890 - Grant Uniquest 1,989. – Grant

Shivpuri – Guna 5 8,304 Ircon International 201.9 – Premium Oriental 553.5 – Grant

Source: Company, Ambit Capital research. The pink shaded projects saw bidding aggression from L1 bidder

Some relaxations in land acquisition, … In 2013 road projects with a length of 100km were exempted from environment ministry's clearance as against 30 km earlier. Similarly, at that time Cabinet has also pushed the limit of exempting environmental clearance for highway projects which need additional 40 meters for further widening as against 20 meters earlier. With the exemption nearly 2/3rd of projects being awarded under EPC model won't need green approval. Further, in 2013, Grant of partial COD was announced—if 75% construction is complete and balance is stuck due to land acquisition issues, Provisional Completion Certificate shall be issued by independent engineer/NHAI for the portion completed and the concessionaire shall be permitted to do partial tolling on the completed portion.

…NHAI land acquisition picking up

The National Highways Authority of India acquired over 31,000 hectares in the last three years, even as delays in land acquisition stalled highway projects across the country. In 2013-14, there was a 54% spurt in land acquisition at 12,336 hectare as against 8,005 hectare in the previous year. Whilst the government and NHAI highlight that land acquisition is getting resolved, challenges still remain.



…but some issues still remain

NHAI officials suggest that land acquisition issues are more for the ancillary land required for the construction and utilities rather than the carriageway; hence the Government and NHAI are working with local authorities and contractors to see how these can be further minimised. In order to restrict the issues arising from land acquisition, the government has decided that no projects should be awarded until 90% of the land is in possession for the EPC (engineering, procurement and construction) projects.

What more has been done? ... As highlighted earlier, the key impediments of the sector are multiple and amid many constraints are funding constraints, poor project planning and dispute resolution mechanism. Apart from the land clearance, partial completion and environmental clearance measures, the following recent measures taken by the government and government bodies should improve cash availability at banks and developers:

Refinancing: The RBI’s 5/25 funding mechanism would provide long-term financing for road projects and back-end debt payments, which improve NAV and equity IRR. Refinancing would not only lower interest rates but also extend repayment terms of the projects. Exemption from CRR/SLR requirements would bring down the cost of capital for banks and hence they could pass it on as lower interest costs to infrastructure companies.

Premium rescheduling: The Government has rescheduled the premium for 11 road projects in the last nine months, which would help to bridge the equity-deficit constraints that several developers are facing. Two of Sadbhav’s and one of Ashoka’s projects achieved premium rescheduling. Ashoka’s management expects premium rescheduling in two other contracts, which would help the company generate excess cash flows of `3bn over the next three years.

Dispute resolution: Our checks with the NHAI suggest that of the `220bn disputes with the developers, `150bn has been settled for a payment of ~`15bn.

…and what needs to be done? However, we believe the following further steps are required, if the road opportunity has to fructify into a profitable opportunity for the developers:

Improving planning and advance clearances: Historically, project planning in India has been poor and ad-hoc. For instance, during 2006-09, the Government made a blanket rule to award projects under BOT (Toll) and if the bids failed, then BOT (Annuity) and lastly EPC. We think that there is a need for more efficient project planning and realistic traffic growth assumptions before the roads are bid out.

MCA rigidity and exit: A key concern of developers with the current MCA is the exit clause for projects bid out prior to FY09. Concessionaires are not allowed full exit (only 75% stake can be sold) which limits their ability to generate growth capital. Whilst the draft proposal to amend the MCA has been placed in front of the ministries, there is still no clarity on the progress of the same.

PSU banks’ balance sheet stress: PSU banks, which account for ~75% of Indian banking system assets, are severely constrained on their capital position with average tier-1 capital ratio of 8% (vs private sector banks’ tier-1 ratio of ~11%) and weak profitability with average RoAs of 0.5-0.7% (vs the historical average of 0.8-1.0%). The asset quality pressure in the corporate loan books is at the root of these banks weak profitability, which limits the internal capital generation of PSU banks. With Basel-III capital rules, fully implemented by FY19, banks will be needed to maintain a tier-1 capital ratio of 10-13%, leading to cumulative tier-1 capital requirement of ~US$50bn. Given the relatively small size of private sector banks, participation of PSU banks is essential to lend to infra/project finance, if



economic growth picks up significantly. However, constraints on capital, asset quality pressure and weak profitability will limit PSU banks’ ability to raise their loan book growth in the near to medium term.

NHAI organisational concerns: Our checks suggest a difference of opinion within the organisational hierarchy of the roads ministry and NHAI, which is causing undue delay in execution and order awards. Recent media articles suggest that the NHAI chairman could be changed, with several bureaucrats in the fray for the role.

Amid all the uncertainties, traffic set to improve Whilst traffic growth has been poor for the last two years (2-5% cumulative decline), companies highlight a marked improvement in 1HFY15 (6-7% traffic growth across major toll roads). Sadbhav’s management highlighted that traffic growth of ~8-12% in 1HFY15 for their toll roads, with the sharpest improvement in projects such as Hyderabad-Yadgiri and Ahmedabad Ring Road. IRB’s management highlighted that average traffic growth was at 7% in 2QFY15 as against 6% in 1QFY15. Traffic growth on Ashoka’s toll roads has been moderate (~2-3% YoY) due to its presence in Central-East India (which is suffering from a ban on iron ore mining in east India).

To gauge the traffic growth in 1HFY15, we aggregate the toll collection of 36 toll roads. Our analysis suggests that toll revenue for these 36 roads has grown by 12% in 1HFY15. A 5-6% increase in toll rates (toll revision is either WPI-linked or calculated as 3%+40% of WPI) implies a traffic growth of 6-7% (in line with the management commentaries). We believe that traffic could improve further as the capex cycle and industrial production recovers in India. Industry experts highlight that years of high GDP growth have had higher than 1x traffic-GDP multiplier.

Exhibit 32: Traffic has grown by 6-7% in 1HFY15


0%

4%

8%

12%

16%

5,200

5,600

6,000

6,400

6,800

7,200

1QFY

14

2QFY

14

3QFY

14

4QFY

14

1QFY

15

2QFY

15

(` mn)

Toll collection YoY growth (RHS)

Traffic has improved marginally but lower WPI could dampen overall revenue growth



…but WPI could dampen revenue growth Note that WPI has fallen to the lowest level in the last 10 years which means that the toll reset would be limited to 3-4% (as against previous increases of as high as 7-8%). Our Economy team believes that WPI may grow at 3-4% in the next few years and hence the toll reset would be limited.

Exhibit 33: WPI increase has been the lowest in the last 10 years


2.6%

4.4%

6.6%

4.7%

8.1%

3.8%

9.6%8.9%

7.4%6.0%

2.5%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

YTD

FY1

5

WPI change



Learnings from the global experience Long-term revenue growth in line with nominal GDP To arrive at our long-term traffic growth estimates for road companies, we assume a 10-14% revenue growth over the next five years (4-5% toll increase and 6-9% traffic increase) based on the growth of manufacturing GDP in India. However, to corroborate our assumption, we look at the toll development experience of China and Indonesia. We gross revenues of five Chinese road operators— Dongguan, Fujian Expressway, Jiangxi, Shandong expressway and Hunan Investments—over a ten year period and juxtaposition it with the manufacturing GDP growth of China. Note that over ten years, the traffic growth multiplier with nominal GDP averaged 1.0x. As shown in the exhibit below, although toll revenue growth was lower than the GDP multiplier in initial years as the road assets were scaling up, the growth in later years was very close to nominal GDP growth.

Exhibit 34: Over a ten-year period, the manufacturing GDP multiplier to toll revenue growth has been 1.0x in China


Even in the case of an Indonesian state-owned road developer, Jasa Marga, note that the toll income growth multiplier to nominal GDP is ~1.0x, barring FY11-13 which was high on account of commissioning of new assets.

Exhibit 35: Jasa Marga’s revenue growth broadly has been in line with nominal GDP growth, barring FY11-13 due to addition of new assets

Source: Bloomberg, Company, Ambit Capital research

-

0.2

0.4

0.6

0.8

1.0

1.2

1.4

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

5-year revenue CAGR 5-year Manufacturing GDP CAGR Revenue to nominal GDP multiplier (RHS)

- 1.0

2.0 3.0

4.0 5.0

6.0

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

5-year revenue CAGR 3-year Manufacturing GDP CAGR

Revenue to nominal GDP multiplier (RHS)



Note in the exhibit below that over a long term the Chinese road developers have delivered returns only marginally higher than the risk-free rates in the country.

Exhibit 36: RoE of Chinese road developers have been only marginally higher than the risk-free rates


-30-20-10

01020304050

FY 1

996

FY 1

997

FY 1

998

FY 1

999

FY 2

000

FY 2

001

FY 2

002

FY 2

003

FY 2

004

FY 2

005

FY 2

006

FY 2

007

FY 2

008

FY 2

009

FY 2

010

FY 2

011

FY 2

012

FY 2

013

Dongguan Development Holdings Co Ltd

RoE (%) Risk Free rate - China (%)



Only relatively ‘Good and Clean’ companies create wealth Infrastructure developers lost focus on the balance sheet and chose to chase order book growth during FY10-12. Committing equity and financing the same through leveraging the parent balance sheet was bad enough, but this became even worse when execution slowed down and interest payments ate into the net worth.

Note in the exhibit below that only 8 of the 18 road developers generated positive shareholder returns in the last four years and only 4 of those could beat the risk-free rate!

Exhibit 37: Majority of the road developers have significantly destroyed shareholder wealth in the last five years

Source: Company, Ambit Capital research, Bloomberg

Beware: Once again developers’ affinity towards capital markets rising! Post the bidding hiatus of the last few years, road order awards are likely to pick up in India, especially with a Central Government focussed on reviving infrastructure in India.

Given that majority of the players do not have the balance sheet strength or the cash flow visibility to commit equity, we believe several players would come to the capital market to raise funds (see the exhibit below for QIP details). Apart from the companies mentioned below, three infra companies, Sadbhav Infraprojects, MEP infrastructure and PNC InfraTech, have filed for an IPO.

Exhibit 38: Companies have raised ̀ 43bn from the capital markets in last 9 months

Name of the company Date Amount raised (̀ mn)

GMR Infrastructure Ltd 08-Jul-14 14,770

Jaiprakash Associates 07-Jul-14 15,000

J.Kumar Infraprojects Ltd 18-Jul-14 1,370

Gammon Infrastructure Projects Ltd 04-Sep-14 2,590

Sadbhav Engineering Ltd 17-Oct-14 2,500

MBL Infrastructure Ltd 08-Dec-14 1,174

Supreme Infrastructure India Limited 21-Jan-15 1,000

Ashoka Buildcon NA 5,000

IRB NA 4,400

Total Funds raised 47,804

Source: BSE, Ambit Capital research

We follow a structure to understand credible franchises and subsequently rank the companies based on their size and balance sheet management.

41% 34% 34%20%

8% 6% 4% 4%

-4% -12% -19% -19% -23% -30% -35% -36% -38% -48%

KN

R

SAD

E

MBL

Ash

oka

NC

C

IRB

Supr

eme

ITN

L

Gay

atri

Pate

l

GM

R

Uni

ty

GV

K

IVRC

L

Gam

mon

Ram

ky

lanc

o

ARS

S

4-yr share price CAGR



The ‘Good’ and ‘Clean’ filter There are multiple infrastructure developers in India; however, given issues such as excess leverage, poor asset portfolios and less-than-ideal management track-records, we believe that such companies should not sieve through an investors checklist, as more often than not these are value traps.

Exhibit 39: List of infrastructure developers in India

Company EPC revenue ` mn (FY14)

EPC revenue CAGR: FY09-14

EPC capital employed (̀ bn)

Capital Employed in roads (̀ bn)

Gammon India 55,751 -14% 58,367 13,443

Gayatri Projects 12,525 10% 22,090 11,077

GMR Infrastructure 1,694 47% 135,600 81,954

IVRCL 55,088 -6% 54,372 41,780

NCC 47,778 6% 49,949 6,038

Unity Infraprojects 14,790 6% 27,941 2,545

Ashoka Buildcon 10,021 13% 11,568 32,987 IL&FS Transportation Networks 8,455 42% 76,062 162,141

IRB Infrastructure 10,210 45% 42,459 103,989

KNR Construction 7,125 4% 6,014 4,326

MBL Infrastructures 6,289 29% 9,645 3,351

Sadbhav Engineering 12,569 17% 19,647 50,027

Supreme Infrastructure 5,333 42% 17,007 21,379


We segregate the players based on the boom-bust matrix, which checks the solidity of the EPC and the BOT franchises. Then we rank a few select players which have fewer concerns. Note that we exclude L&T IDPL despite it being a large road developer, due to paucity of data-points for the exercise below:

Boom-Bust matrix – EPC franchise The below matrix segregates road companies based on the EPC franchise, which we ascertain through:

(a) PBT margin: This is a measure to ascertain profitability and also the ability of the companies to service interest. Ashoka and Sadbhav appear reasonable with high single-digit margins. Although IRB and ITNL appear superior to most other road developers, we find the ~20% EBITDA margin difficult to explain (possible overcapitalising the BOT portfolio).

(b) Revenue/debt: Here we ascertain the scale of the business, and the debt at the standalone level. This determines the strength of the parent business. Companies such as IRB and ITNL appear poor on this metric, given high leverage, which raises a risk of earnings erosion during times of weak execution.

(c) Capital employed turnover: Here, we ascertain the capital efficiency of the road developers, both in terms of gross block management and working capital management. Ashoka, Sadbhav, and KNR are relatively better as compared to IRB, ITNL, HCC, etc.



Exhibit 40: Boom-Bust matrix - EPC franchise

Source: Ambit Capital research, Company; Note: Bubble size denotes capital employed turnover

Boom-Bust matrix - Infra developers The below matrix maps infrastructure developers based on their equity needs, CFO generated (denoted by the size of the bubble) and consolidated debt/equity. Note that the circled players (Sadbhav, Ashoka, KNR, MBL and Supreme) have limited equity needs and reasonable debt/equity (though this increased for Sadbhav and Supreme in recent years). Note that players such as IRB have high equity needs and debt/equity. Players such as GMR and GVK have reasonably high equity needs but very high leverage, which impedes their ability to participate in the roads opportunity.

Exhibit 41: Boom-Bust matrix - Infrastructure developers

Source: Company, Ambit Capital research; Note: Bubble size denotes Consolidated Debt/Equity

Ranking the survivors We rank the key road developers in India based on scale, EPC franchise and cash generation.

Limitation to our analysis: Our analysis is based on objective data and does not consider qualitative aspects such as accounting quality and corporate governance practices. For instance, on EPC franchise rankings, some companies may appear better on account of higher EBITDA margin, which in turn could have been earned by overcapitalising the BOT assets.

GMR

GVK

IRBITNL

MBLKNR

Reliance Infra

Sadbhav

ASBL Adani

(2.0)

-

2.0

4.0

6.0

8.0

10.0

(5.0) - 5.0 10.0 15.0 20.0 25.0 30.0 35.0

Co

nso

l De

bt/

Equi

ty (X

)

Equity Needs (Rs bn)

Supreme



Overall ranking Ashoka Buildcon ranks the best on our framework to rank infrastructure companies. Whilst the company ranks relatively low on scale, it ranks significantly better on metrics such as EPC franchise and cash management. Sadbhav’s rank has fallen in the last 1-2 years, as the company significantly increased leverage at the parent level. ITNL ranks second on account of its scale and EPC franchise (though we find the 20% EBITDA margin difficult to understand!). Smaller players such as MBL and KNR rank third and fourth respectively.

Exhibit 42: Ashoka ranks the best on our ranking framework of infra companies

Company Scale EPC Franchise Cash management Overall ranking

Ashoka Buildcon 3 3 2 1

ITNL 1 1 6 2

MBL 6 2 3 3

KNR 5 5 1 4

IRB 2 4 4 4

Sadbhav 4 6 5 6

Supreme Infra 7 7 7 7


Scale We measure scale by experience, size of the asset portfolio and the capital employed in the business. IRB and ITNL rank the highest on this metric, given their long experience of 14-16 years and large BOT asset portfolios.

Exhibit 43: Ranking on the scale metric

Company (Ranks) Experience Lane Kms Capital Employed

Overall ranking

ITNL 5 1 1 1

IRB 3 3 2 2


Sadbhav 7 5 4 5

KNR 1 7 8 6

MBL 4 8 7 7



Exhibit 44: Numbers behind the ranking above

Company Experience (Years) Lane Kms Operational Lane

Kms Under Construction

Lane Kms Capital Employed

(̀ mn) CE EPC (̀ mn)

CE BOT (̀ mn)

ITNL 14 12,196 8,118 4,078 80,094 31,444 48,650

IRB 16 7,498 4,209 3,289 72,991 48,352 24,639

Ashoka Buildcon 17 4,386 2,253 2,133 14,701 5,115 9,585

Sadbhav 9 4,178 1,964 2,214 19,598 9,941 9,657

KNR 8 670 454 216 6,701 4,759 1,941

MBL 9 446 114 332 10,756 7,990 2,766

Supreme Infra 6 1,959 663 1,296 17,007 9,340 7,666


Ashoka Buildcon ranks first in our ‘Good and Clean’ filter



EPC franchise ITNL ranks the best on EPC franchise, given the highest revenue CAGR and high EBITDA margin although the company ranks poorly on standalone leverage. Similarly, IRB ranks the highest in revenue CAGR and second highest on EBITDA margin. Note that ITNL and IRB earn industry-leading EBITDA margins (18-20%), which we find difficult to explain, as even a large player like L&T earns margins of 12% at best. The concern on IRB and ITNL is high leverage and loans and advances given to subsidiaries. Ashoka ranks poorly on revenue CAGR owing to a lower construction order book but it ranks fairly high on most other parameters.

Exhibit 45: Ranking on the EPC franchise

Company Revenue

CAGR (FY10-14)

EBITDA Margin

(%)

Debt-Equity

ratio (X) RoCE (%) Loans & Advances

as a % of Networth Rank

ITNL 3 1 7 1 3 1

MBL 4 6 4 5 1 2

Ashoka Buildcon 6 4 1 3 2 3

IRB 1 2 5 6 6 3

KNR 7 3 2 5 4 5

Sadbhav 5 7 3 2 5 6

Supreme Infra 2 5 6 4 7 7


Exhibit 46: Numbers behind the ranking above Name of the Company

Revenue CAGR 10-14

EBITDA margin Debt/Equity Pre-tax

RoCE Loans to networth

ITNL 41.7% 25% 1.69 35% 25

MBL 29.2% 11% 1.42 24% -

Ashoka Buildcon 12.6% 17% 0.24 18% 16

IRB (including MRM) 45.0% 22% 1.44 20% 57

KNR 4.0% 18% 0.37 23% 32

Sadbhav 17.0% 11% 1.07 28% 50

Supreme Infra 41.8% 16% 1.68 28% 87


Cash management KNR ranks the best in cash management, given sufficient CFO to fund equity needs for ongoing projects, lowest consolidated leverage and hence the best interest coverage. Similarly, Ashoka Buildcon ranks second given its superior balance sheet management. Sadbhav’s rank has deteriorated in recent years owing to increase in leverage, as few of their large projects are in the initial stages of completion.

Exhibit 47: Ranking on cash management

Company CFO / Equity needs

Debt - Equity ratio

Interest / Net worth Rank

KNR 1 1 1 1


MBL 6 2 3 3

IRB 7 4 4 4

Sadbhav 2 6 6 5

ITNL 5 5 5 6





Exhibit 48: Numbers behind the ranking

Company CFO/Equity Needs

Consolidated Debt/Equity

Interest/ Net Worth

KNR 23.9 0.8 2.4%

MBL 0.9 1.9 16.1%

Ashoka Buildcon 5.5 2.6 10.1%

IRB 0.6 3.1 21.2%

ITNL 1.6 3.9 28.7%

Sadbhav 6.0 4.5 32.6%




Relative valuation within credible few Sadbhav trades at a relative premium to other road developers in India. Sadbhav trades at a premium to IRB and ITNL despite lower RoEs; although some of the premium is justified because we believe that ITNL’s and IRB’s profitability is inflated on account of the significantly higher (but unjustified) EBITDA margins (higher than 20% for the last two years) reported by both the companies for their construction business. Inflated profitability also boosts the consolidated net worth, which reduces the P/B multiples for these two players. Moreover, several large projects are yet in the initial stages of ramping up or yet to be commissioned, hence they make a loss (given high interest and depreciation charge), which in turn reduces the net worth.

Ashoka trades in line with IRB, despite superior EPC franchise, low leverage and a history of significantly better capital allocation and cash management.

Diversified developers trade at materially lower valuation than road companies, given low (negative in most cases) RoEs and high leverage impeding growth ability.

Ports and logistic developers/operators trade at a materially lower discount to road operators, owing to significantly higher profitability and better quality balance sheets and lower risk profile.

Indian road developers own recently-commissioned road asset portfolios, which incur heavy book losses in initial years, owing to high depreciation and interest charge. This in turn leads to net worth erosion and hence Indian companies appear expensive to the global peers with matured road asset portfolios.

Exhibit 49: Relative valuation summary

Companies Mcap 6m ADV EV/EBITDA P/B CAGR (FY14-16) RoE (%)

US$ mn US$ mn FY14 FY15 FY16 FY14 FY15 FY16 Revenue EBITDA FY14 FY15 FY16

Road Developers 3,537 15.3 13.8 12.4 6.0 2.3 2.2 1.9 16.7% 26.7% 8.8 7.1 8.8

IRB Infrastructure 1,205 12.2 9.7 7.8 4.4 2.1 1.9 1.7 15.5% 23.4% 13.3 14.0 14.3

IL&FS Infrastructure 774 0.8 12.5 11.3 3.8 1.0 0.8 0.8 6.5% 14.1% 10.9 8.0 8.6

Sadbhav Engineering 1,035 1.2 22.5 16.9 13.7 5.0 4.1 3.1 24.2% 32.0% (4.0) 1.5 6.3

Ashoka Buildcon 420 0.8 16.9 13.5 6.6 2.1 1.9 1.8 20.7% 37.1% 9.2 5.1 5.9

Diversified Developers 16,695 43.2 14.2 16.4 1.6 1.0 1.0 1.0 13.6% 22.2% 1.4 (3.7) (4.6)

Reliance Infrastructure 1,892 21.9 11.2 10.6 0.6 0.4 0.4 0.4 1.8% 13.4% 6.2 6.0 6.5

GMR Infrastructure 1,363 7.2 16.1 16.7 0.9 0.8 0.8 0.9 8.6% 23.7% (15.7) (25.5) (16.5)

GVK Infrastructure 224 1.0 20.4 34.7 0.5 0.5 0.7 0.9 26.8% 34.0% (4.2) (28.1) (36.2)

Power Grid Corporation 12,257 8.7 10.3 8.7 4.2 2.0 1.8 1.6 17.2% 17.8% 14.1 15.1 15.8

Ports 13,111 19.2 19.8 17.0 11.3 5.5 4.2 3.5 19.7% 19.0% 19.7 18.7 19.1

Adani Ports 10,427 14.3 26.3 19.3 21.6 7.5 6.1 5.0 29.7% 30.3% 23.3 22.4 23.5

Gujarat Pipavav 1,865 4.5 24.0 24.7 11.5 7.4 5.2 4.2 9.2% 10.4% 23.1 21.5 21.5

Essar ports 820 0.4 9.2 7.1 0.7 1.7 1.5 1.3 20.0% 16.3% 12.8 12.1 12.4

Logistics Developers 5,934 5.9 22.7 19.2 8.1 5.0 4.4 4.1 12.4% 18.9% 14.5 16.4 16.9

Container Corp 5,180 3.7 26.0 22.7 8.7 4.7 4.3 3.8 14.7% 18.3% 14.9 13.7 14.6

Gateway Distriparks 754 2.2 19.4 15.8 7.5 5.3 4.6 4.3 10.1% 19.4% 14.1 19.0 19.2

Global road Developers 10,261 3 9.7 8.2 1.9 1.5 1.4 1.3 15.3% 14.1% 12.5 12.0 12.5

Anhui Expressway Co Ltd 1,622 0.1 6.6 6.6 1.6 1.1 1.1 1.0 -1.8% 1.4% 10.7 9.7 9.2

Shandong Hi-Speed Co Ltd 5,114 2.0 10.4 9.7 2.4 1.6 1.4 1.3 41.9% 8.1% 11.9 10.9 11.9 China Merchants Hldgs Pac Lt 819 0.0 8.3 7.8 0.2 0.2 0.2 0.2 6.3% 4.7% 10.7 9.6 9.9

Yuexiu Transport Infrastruct 1,055 0.1 8.5 7.6 1.1 1.0 0.9 0.9 15.8% 13.9% 7.4 7.5 7.8

Huabei Expressway Co Ltd 1,125 1.2 15.3 8.8 1.8 1.6 1.5 1.4 26.6% 49.3% 6.6 8.1 8.6

Lingkaran Trans Kota Hldgs 526 0.0 8.8 8.7 4.4 3.8 3.4 3.1 3.1% 7.2% 27.7 25.9 27.8

Sector Average 36,462 78 14.6 13.9 4.6 2.4 2.1 2.0 15.5% 19.8% 9.6 7.6 8.6

Source: Ambit Capital research, Company, Bloomberg



Cross cycle valuations As shown in the exhibits below, majority of the road developers’ valuation has re-rated significantly in the last 12 months with rising hopes of road infrastructure spending recovery in India alongside expected declining interest rates and rising traffic. Moreover, note that Ashoka and Sadbhav are trading at richer multiples than IRB and ITNL, which is a function of the Ashoka’s and Sadbhav’s relatively newer asset portfolio which incurs losses in the initial years (and in turn reduces net worth) due to high depreciation and interest expenses.

Exhibit 50: Sadbhav is trading at a 66% premium to cross-cycle P/B


Exhibit 51: Ashoka is trading at a 60% premium to cross-cycle P/B


Exhibit 52: IRB is trading in line with its five-year average P/B


Exhibit 53: ITNL is trading at a marginal discount to cross-cycle average with commissioning of large assets


0

1

1

2

2

3

3

Mar

-09

Sep-

09

Mar

-10

Sep-

10

Mar

-11

Sep-

11

Mar

-12

Sep-

12

Mar

-13

Sep-

13

Mar

-14

Sep-

14

Mar

-15

(X)

Sadbhav PB (x) Average one-yr fwd P/B

-

0.5

1.0

1.5

2.0

2.5

Nov

-10

Mar

-11

Jul-

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Nov

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Mar

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Jul-

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Nov

-12

Mar

-13

Jul-

13

Nov

-13

Mar

-14

Jul-

14

Nov

-14

Mar

-15

(X)

Ashoka 1 yr. fwd. PB (RHS) (x)

Avg. 1 yr fwd. PB (RHS)

0.0

1.0

2.0

3.0

4.0

Apr

-09

Sep-

09

Feb-

10

Jul-

10

Dec

-10

May

-11

Oct

-11

Mar

-12

Aug

-12

Jan-

13

Jun-

13

Nov

-13

Apr

-14

Sep-

14

Feb-

15

(X)

IRB PB (x) 5-yr avg P/B Average

-

1.00

2.00

3.00

Apr

-10

Sep-

10

Feb-

11

Jul-

11

Dec

-11

May

-12

Oct

-12

Mar

-13

Aug

-13

Jan-

14

Jun-

14

Nov

-14

(X)

ITNL PB (x) 5-yr avg P/B Average



Ashoka vs Sadbhav Whilst both Sadbhav and Ashoka are relatively Good and Clean with a strong BOT portfolio, EPC franchise and management quality, we find Ashoka a relatively better play on the revival, given its stronger parent balance sheet, similar road portfolio size (although traffic drivers are different) and attractive valuations.

Below is a comparison of the two companies on various metrics.

BOT assets - Ashoka has surplus equity but requires mining resumption

Sadbhav owns 12 road assets (`15bn equity invested; 3,568 lane kms), whereas Ashoka owns eight road assets (`14bn equity invested; 3,309 lane kms). Note that 90% of Ashoka’s road portfolio is collecting toll as against 72% for Ashoka. Sadbhav’s road asset portfolio runs through industrialised states (Maharashtra, Rajasthan and Gujarat) and hence traffic is dependent on manufactured exports, whereas traffic growth on Ashoka’s road assets is dependent on mineral extraction, which could ramp-up significantly in the next 2-3 years. Moreover, in the long term, increasing manufacturing in these traditionally under-developed locations would drive industrial traffic for Ashoka. We expect equity IRR of 10-17% for Ashoka’s and Sadbhav’s road asset portfolio, barring a few unique ring assets of Sadbhav, wherein the equity IRR is >25%.

Exhibit 54: Road asset details

Company No. of road projects Lane kms Equity Invested % of 6 lane projects % of 4 lane projects Equity IRR

Ashoka Buildcon 8 3,309 13,826 50 50 10-17%

Sadbhav 12 3,568 15,264 0 100 12-17%*


Exhibit 55: Regional road asset split

Company North South East West Central

Ashoka Buildcon - 19 57 14 10

Sadbhav 36 22 - 38 3


Evolution of the asset portfolios

Ashoka: Ashoka’s equity commitments continuously rose over FY10-12 (three years of most aggressive bidding), yet the company funded the equity needs either through cash flows or stake divesture of the asset holding company (39% stake transferred to SBI-Macquarie for `7bn).

Exhibit 56: ACL funded equity commitments (` mn)


00.20.40.60.811.2

1,000

6,000

11,000

16,000


Equity commitment Cummulative Equity commitment

Debt-Equity ratio (RHS)

Cumulative equity investment

Road asset portfolio

Road asset Year

Bhandara Road 2008

Durg Bypass 2008

Dhankuni-Kharagpur 2012

Belgaum-Dharwad 2011

Sambhalpur-Baraghar 2011

Jaora-Nayagaon Road 2008 Pimpalgaon-Nashik-Gonde 2010

Chennai ORR 2014




Sadbhav: Sadbhav refrained from bidding during years of high competition such as FY11, but it won three large orders in FY12-13 (`6.5bn equity commitment), which required the parent to undertake leverage to meet the equity needs of SIPL.

Exhibit 57: SIPL’s EPC business had to support its equity needs in recent years


EPC franchise – Sadbhav offers higher growth but Ashoka has a better balance sheet

Sadbhav has a strong order book of `90bn (2.9x book-to-bill) higher than Ashoka’s order book of `35bn implies 2.3x book-to-bill. We believe that Sadbhav will deliver materially higher revenue and EPS growth over the next 2-3 years unless Ashoka wins large orders.

Exhibit 58: Sadbhav’s order book could drive reasonably strong revenue growth for the next 2 years


Exhibit 59: Ashoka’s order book has receded significantly


00.20.40.60.811.2

0

5000

10000

15000

20000

FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14



Roads BOT, 24%

Roads (Others),

21%Mining ,

25%

Irrigation , 30%

Rs 90bn, 2.9x book-bill

Roads (Captive),

31%

Roads (Cash),

13%

Power T&D, 56%

Rs34bn; 2.1x book-bill

Cumulative equity investment

Road asset portfolio

Road Year

Ahmedabad ring road 2007

Aurangabad-Jalna 2007

MBCP 2009

Nagpur Seoni 2008

Bijapur-Hungund 2010

Dhule-Palesnar 2010

Hyderabad-Yadgiri 2010

Rohtak-Panipat 2010

Shreenathji Udaipur 2012

Bhilwara Rajasamand 2013

Rohtak-Hisar 2013

Karnataka SH 2014




Exhibit 60: We build in 27% EPC revenue CAGR for Sadbhav…


Exhibit 61: … as against 15% for Ashoka


Margin, leverage and profitability

Ashoka’s EBITDA margin has historically been 100-200bps higher than Sadbhav’s; however, we expect this gap to be bridged, as Sadbhav executes margin-accretive mining contracts, whilst Ashoka executes margin-dilutive power T&D contracts.

Sadbhav’s standalone leverage is materially higher than Ashoka’s (1.1x as against 0.3x for Ashoka), as Sadbhav raised debt to fund the equity needs of the BOT assets. We highlight that Ashoka has displayed better capital allocation and cash management than Sadbhav and also Ashoka has better RoCEs.

Exhibit 62: Ashoka’s EBITDA margins have been higher than Sadbhav’s


Exhibit 63: Ashoka’s leverage has been lower than Sadbhav’s


8%

10%

12%

14%

16%

-

10

20

30

40

50

60

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

Revenues (Rsbn) EBITDA margin (RHS)

-10%

0%

10%

20%

30%

-

5,000

10,000

15,000

20,000

25,000


(` mn)

Roads Power T&D

Others YoY growth (RHS)

5%

7%

9%

11%

13%

15%

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

Ashoka Sadbhav

0.15

0.35

0.55

0.75

0.95

1.15

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

Debt-Equity ratio (x)

Ashoka Sadbhav



Exhibit 64: Ashoka’s CFO/EBITDA has been significantly better than Sadbhav’s


Exhibit 65: Sadbhav’s RoCE would catch up with Ashoka in FY17


Valuation discovery likelihood higher in Ashoka Sadbhav: The base-case valuation (as per our NAV-based valuation) implies a valuation of 2.6x equity invested, which seems fair for an asset portfolio offering equity IRR of 17-18%. The optimistic case assumes a 3.0x multiple to the equity invested, which although on the higher side, is achievable, given that Sadbhav Infra (SIPL) owns a good and well-funded asset portfolio. The highly optimistic case implies a 3.5x multiple to the equity invested (similar to the indicated levels of SIPL IPO), which we believe is stretched and the rationale to pay such rich valuations could be a dearth of alternative investment avenues in similar quality asset portfolio (rarity premium).

Exhibit 66: Some scope of valuation discovery left

(̀ mn unless mentioned) Metric Used Base case Optimistic case Highly optimistic case

Multiple Value Multiple Value Multiple Value

SEL FY 16 PAT 2,085 13.5 28,148 13.5 28,148 13.5 28,148

SIPL (for 78.3% stake held by SEL) Equity invested 16,782 2.8 36,793 3.0 39,421 3.5 46,122

Total Value 64,940 67,568 74,270

Current Mcap 57486 57486 57486

% upside 13.0% 17.5% 29.2%


Ashoka: Whilst the base case broadly implies our NAV-based valuation, at a highly achievable 2.5x multiple, the upside is 55%. Although 3.0x (highly optimistic case) is rich for an asset portfolio with an equity IRR of 17%, recent transactions such as Sadbhav are likely to happen at similar multiples. Investors pay the premium given lack of investable and credible names in the infrastructure sector. Under this scenario, the potential upside is 70%.

Exhibit 67: ABL’s valuation under different scenarios

Ashoka Buildcon (̀ mn unless mentioned) Metric used

Base case Optimistic case Highly optimistic case


ABL-construction business FY16 PAT 1,370.0 13 18,041 13.0 18,041 13.0 18,041

ABL-BOT portfolio NAV 2,972 2,972 2,972

ACL-BOT portfolio FY16 Equity invested 8,434 2.0 16,398 2.5 20,498 3.0 24,597

Total Value 37,411 41,511 45,610

Current Mcap 26,850 26,850 26,850

% upside 39.0% 54.5% 69.8%


(50) - 50

100 150 200 250

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

CFO / EBITDA (%)

Ashoka Sadbhav

5.0%

8.0%

11.0%

14.0%

17.0%

20.0%

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

Ashoka Sadbhav



Exhibit 68: Sadbhav’s and Ashoka’s road portfolio map




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Stumbled but recovered

Sadbhav Engineering’s strong EPC franchise and large well-funded road portfolio (3,762 lane kms) set it apart from many of its struggling peers. The company has resolved its equity shortfall concerns through termination of the Solapur-Bijapur contract, equity issuances and unwinding of working capital. Execution of ongoing contracts is on-track; moreover, its current order book (book-to-bill of 2.9x) and possibility of sharp road order inflows lead to visibility of 27%/29% construction revenue/EBITDA CAGR over FY15-18E. The entire BOT portfolio will be operational by end-FY16, which will drive 28%/30% toll revenue/CFO CAGR over FY15-18E. Our target price of `383 implies 3.0x FY16E P/B—`171 for the EPC segment (14x FY16E EPS) and `212 for the BOT portfolio (2.5x FY16E equity invested).

Competitive position: STRONG Changes to this position: POSITIVE Proven execution skills; diversified order book Sadbhav’s strong execution capability, healthy order book (2.9x book-to-bill) and likely sharp increase in order inflows (given muted competition in large EPC/BOT contracts) support our 27% revenue CAGR estimate over FY15-18E. Increasing mining revenues and benign bitumen costs will improve EBITDA margin by 100bps in FY16-17E, driving 29% EBITDA CAGR in FY15-18E. Equity deficit addressed; SIPL monetisation to provide growth capital Sadbhav addressed equity shortfall concerns through the termination of the Solapur-Bijapur contract and equity proceeds of `3.2bn. Given that its under-construction assets are largely funded and will be commissioned by end-FY16, we expect 28%/30% toll revenue/EBITDA CAGR and surplus growth capital of `8.3bn (assuming `6bn equity raise at Sadbhav Infra) over FY15-18E. Avenues open to improve IR` of the BOT portfolio We expect most of Sadbhav’s asset portfolio to generate equity IR` of 12-18% (with >25% in Ahmedabad Ring Road and Maharashtra Border Checkpost). The company could further increase the NAV and IR` of its portfolio through debt refinancing (~100bps interest rate reduction), extension of debt repayment terms and 20% concession increase due to traffic shortfall in 6 out of the 12 roads. Quality asset portfolio supports rich valuation Despite Sadbhav’s re-rating, we see upsides to current valuations due to acceleration in order inflows and traffic improvement at operational assets. We value the EPC business at `171/share (implying 14x FY16E EPS) and Sadbhav’s 78.3% share in Sadbhav Infra at `212/share (implying 2.8x FY16E equity investment). Key risks: Tepid order awards and delayed traffic recovery.

COMPANY INSIGHT SADE IN EQUITY March 31, 2015

Sadbhav EngineeringBUY


Recommendation (as on 27/03/2015) Mcap (bn): `58/US$0.9 6M ADV (mn): `81.4/US$1.3 CMP: `340 TP (12 mths): `383 Upside (%): 14

Flags Accounting: AMBER Predictability: AMBER Earnings Momentum: AMBER

Catalysts

Pick up in order inflows in FY16, with NHAI awards gathering pace

Ramp up in traffic growth with pick up in capex cycle/industrial output

Capital raise from SIPL IPO in early FY16 leading to lower leverage

Performance (%)

Source: Bloomberg, Ambit Capital Research

60160

260360

460M

ar-

14

Ma

y-1

4

Jul-

14

Sep-

14

No

v-1

4

Jan

-15

Ma

r-1

5

SADE SENSEX index

Analyst Details

Nitin Bhasin

Tel: +91 22 3043 3241

[email protected]

Achint Bhagat

Tel: +91 22 3043 3178 [email protected]

Key financials

Y/E March (̀ mn) FY13 FY14 FY15E FY16E FY17E

Operating Income 21,596 27,325 38,723 49,338 63,013

EBITDA 3,941 4,456 8,276 10,574 14,457

Net Profit (Adj) -534 -773 559 1,619 1,725

ROE (%) 0.6% 3.6% 3.8% 8.1% 7.1%

ROIC (%) -3.9% 4.6% 8.1% 8.9% 10.9%

P/B(x) 3.0 2.9 2.1 1.5 1.9


Sadbhav Engineering


Addressing concerns opportunistically Sadbhav Engineering (SEL) has amongst the best EPC execution capabilities in India, with a history of on-schedule completion. Through controlled ambition, the company has built a strong portfolio of 12 toll roads (3,762 lane kms, `17bn equity invested), initially through partnerships and later through complete ownership. Although Sadbhav has faced equity deficit in recent years, it bridged the gap through project termination and equity issuances, which alleviate equity shortfall and rising leverage concerns. The current EPC order book and likelihood of sharp order inflows give stability of 30% construction revenue CAGR over FY15-17E. Moreover, with majority of the assets generating stable cash flows, the company could improve the NAV of its BOT assets through financial engineering (refinancing and extension of debt repayment).

Construction business set to see order inflows and growth acceleration: Whilst EPC revenues declined by 32% in FY13 due to clearance issues and delayed execution, it grew by 30% in FY14 and 28% in 9MFY15, as execution of captive BOT orders improved. The company recently bagged road orders worth `7bn and the management expects further order inflows of `30bn in the next 6-12 months. Alongside, increasing contribution of mining and irrigation revenues (as the company executes its large order book in these segments) will support the growth of the EPC business. We estimate 27%/30% EPC revenue/EBITDA CAGR over FY15-18E. We build in 100bps margin improvement over FY14-16E, owing to higher contribution of high-margin mining revenues and lower bitumen prices (down 15% YoY).

Exhibit 1: Current order book implies 2.9x LTM book-bill


Exhibit 2: Rising order inflows in roads…


Exhibit 3: …to drive 27% EPC revenue CAGR over FY14-17


Exhibit 4: Higher scale to drive RoCE/RoE improvement


Roads BOT, 24%

Roads (Others),

21%

Mining , 25%

Irrigation , 30%

(` 90bn)

0

10

20

30

40

50

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

` bn

Others

Irrigation

Mining

RoadsBOT

8%

10%

12%

14%

16%

-

10

20

30

40

50

60

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

Revenues (Rsbn) EBITDA margin (RHS)

0%

5%

10%

15%

20%

25%

-

0.5

1.0

1.5

2.0

2.5

3.0

FY09

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

Capital employed turnover (x)RoE (%) (RHS)RoCE (%) (RHS)

Sadbhav Engineering


Exhibit 5: EPC revenue growth hinges on order inflows

Particulars (̀ mn unless mentioned) FY12 FY13 FY14 FY15E FY16E FY17E

Order Book

Roads 53,987 66,200 50,867 34,105 31,745 8,913

BOT 33,400 46,820 35,242 19,480 14,120 1,288

EPC 20,587 19,380 15,625 14,625 17,625 7,625

Mining 11,605 20,220 24,210 23,210 21,760 20,093

Irrigation 9,950 15,000 22,968 24,398 25,364 26,164

Others - - 1,344 2,801 4,164 5,605

Total 75,542 101,420 99,389 84,515 83,033 60,774

YoY Growth 8% 34% -2% -15% -2% -27%

Order Inflows Roads 22,029 25,003 1,995 3,000 25,000 10,000

BOT 20,049 20,578 - - 10,000 5,000

EPC 1,980 4,425 1,995 3,000 15,000 5,000

Mining 3,253 11,017 7,390 6,000 6,600 7,590

Irrigation 3,155 7,906 10,824 5,000 5,250 5,513

Others - - 2,657 2,923 3,157

Total 28,438 43,926 20,209 16,657 39,773 26,259

YoY Growth 18% 54% -54% -18% 139% -34%

Revenue booking Roads 22,415 12,852 16,449 19,761 27,360 32,832

BOT 19,799 7,158 10,699 15,761 15,360 17,832

EPC 2,616 5,694 5,750 4,000 12,000 15,000

Mining 2,194 2,402 3,400 7,000 8,050 9,258

Irrigation 2,106 2,856 2,856 3,570 4,284 4,712

Others - - 1,200 1,560 1,716

Total 26,715 18,110 22,705 31,531 41,254 48,518

YoY Growth 21% -32% 25% 39% 31% 18%

Book to Bill (LTM) 3.4 3.8 5.5 3.7 2.6 1.5


Sadbhav Engineering


Well placed to de-lever the parent balance sheet Sadbhav’s standalone debt equity increased to 1.1x in FY14 as against 0.6x in FY11 and as a result interest expense rose to 60%/ 50% of FY13/FY14 EBIT. The exhibits below enumerate the reasons for the increase in standalone leverage. Firstly, the company’s CFO generation dropped significantly, as EPC execution declined and payments of `1.8bn were stuck from its SPVs. Secondly, loans to Sadbhav Infra (SIPL) rose to `5.1bn in FY14 as against `145mn in FY11, as the high equity needs for the BOT assets required cash support from the parent. Sadbhav also took debt and infused `2.1bn equity in SIPL in FY13. Lastly, the company incurred cumulative capex of `5.3bn over FY10-14 to acquire equipments for EPC works (mainly for mining).

We expect SEL’s debt/equity to decline to 0.6x in FY16, as SIPL will repay ̀ 2bn-3bn of advances taken from SEL; moreover, the balance `400mn outstanding from its SPV Dhule-Palesnar would be received in the next 3-6 months.

Exhibit 6: CFO/EBITDA has improved post a sharp decline in FY11 and FY12


Exhibit 7: Loans given to subsidiaries to reduce as SIPL repays SEL


Exhibit 8: CFO/EBITDA has improved post a sharp decline in FY11 and FY12


Exhibit 9: Loans given to subsidiaries to reduce as SIPL repays SEL


0%

50%

100%

150%

200%

250%

-

1,000

2,000

3,000

4,000

5,000

6,000

FY10

FY11

FY12

FY13

FY14

FY15

FY16

FY17

(` mn)

CFO CFO/EBITDA (RHS)

0%

10%

20%

30%

40%

50%

60%

-

1,000

2,000

3,000

4,000

5,000

6,000

FY10

FY11

FY12

FY13

FY14

FY15

FY16

FY17

(` mn)

Loans and advances to SIPLas a % of SA networth

72 61 61

92

71

51 48 49


Working Capital days

0%

20%

40%

60%

80%

-

0.2

0.4

0.6

0.8

1.0

1.2

FY10

FY11

FY12

FY13

FY14

FY15

FY16

FY17

(x)

Standalone Debt/Equity Interest/EBIT (RHS)

Sadbhav Engineering


Evolution of SIPL’s BOT portfolio Sadbhav turned into an asset developer from a construction company in FY06, with a small state BOT road project, Ahmedabad Ring Road. After this, the company undertook a few more BOT contracts, largely in partnership with its larger peers, to gain experience in BOT asset development. Sadbhav became aggressive during FY11-13 and bagged six large BOT contracts (out of which one has been terminated), which required equity infusion of `14bn (65% of its overall equity invested).

Exhibit 10: SIPL’s EPC business had to support its equity needs in recent years


Exhibit 11: Sadbhav bagged four large contracts during FY11-13

Source: Company, Ambit Capital research. Note: SBTPL? was terminated in FY14

0

0.2

0.4

0.6

0.8

1

1.2

0

5000

10000

15000

20000




20%

40%

60%

80%

100%

120%

-

4,000

8,000

12,000

16,000

MN

EL

ARR

IL

AJT

L

NSE

DPT

MBC

P

HYT

BHT

RPT

SBTP

L

SUPT

L

RBTP

L

RHTP

L

Project cost (Rsmn) (LHS) SIPL Equity needs (Rsmn)(LHS) Sadbhav's share in project(%)

BOT roads portfolio

Road Year

Ahmedabad ring road 2007

Aurangabad-Jalna 2007

MBCP 2009

Nagpur Seoni 2008

Bijapur-Hungund 2010

Dhule-Palesnar 2010

Hyderabad-Yadgiri 2010

Rohtak-Panipat 2010

Shreenathji Udaipur 2012

Bhilwara Rajasamand 2013

Rohtak-Hisar 2013

Karnataka SH 2014

Source:Company

Sadbhav Engineering


A large and high-quality BOT asset portfolio SIPL has a portfolio of 12 road assets running through India’s most industrially advanced states. Out of the 12 roads, 8 are commissioned (MBCP is partially commissioned) and 4 are under advanced stages of implementation. The management estimates ahead-of-schedule completion of the ongoing road assets. In this section, we explain the operating and financial characteristics of the assets.

Operational characteristics

Below is a brief profile of SIPL’s road asset portfolio. Majority of the assets are located in north-west India; two projects have exposure to south India. Industrial production is the key traffic growth driver for majority of the assets.

Exhibit 12: SIPL’s road asset portfolio

Road Lane Kms

SIPL Holding Partner Type Completion

year Concession

period Comments

Ahmedabad ring road 304 100% NA

Toll-cum grant

FY07 20

A unique ring asset around Ahmedabad city through seven toll plazas. One of the most-profitable road assets of the company. The company recently bought the stake from Patel Infrastructure.

Aurangabad-Jalna 276 100% NA Toll FY10 24

Contains two sections: (I) Aurangabad Airport to Jalna Bypass and (II) Zalta Bypass to Beed Bypass. Major industrial parks located nearby and majority of the traffic on the route is industrial traffic.

Mumbai Nashik 400 20% GIPL (75%), BE Billimoria (5%) Toll FY11 20 The company recently sold its 20% stake to Gammon for

`720mn.

MBCP NA 90% SREI Infra Toll FY14 25

22 border check posts located around Maharashtra state with an objective to facilitate RTO checks; sales tax and excise clearances, weighment of vehicles and IT support to ensure that there are no delays or tax leakages.

Nagpur-Seoni 112 100% NA Annuity FY12 20 The only annuity project in SIPL's portfolio.

Bijapur-Hungund 389 77% Monte Carlo.

Toll FY12 20

Part of the NH-13, located in the state of Karnataka. Caters to north-south traffic, originating from Bengaluru to Delhi. Majority of the traffic is commercial, given industrial areas of Bellary, Hospet and Sandur.

Dhule-Palesnar 388 40% HCC Toll FY12 18

The project road starts from MP/MH Border and ends at Dhule. It is a part of NH-3 (AB Road) which connects Agra to Mumbai. Major highways intersect at Dhule (NH-3 and NH-6).

Hyderabad-Yadgiri 400 100% NA Toll FY13 23 Starts at Hyderabad and ends near Raigiri at the junction of Yadagirigutta Road. Traffic growth drivers are industrial production, sand transportation and pilgrims.

Rohtak-Panipat 320 100% NA Toll FY14 25

Through the intersection of the three major highways i.e. NH-1, NH-10, NH-71A, project connects to all the development zones in Haryana-Gurgaon, Faridabad and Hisar.

Shreenathji Udaipur 317 100% NA Toll FY15 27

Caters to traffic originating from Delhi to Mumbai. Passes through a mineral-rich zone that has zinc, marble, etc. Management expects traffic diversion, since 50,000 PCUs pass between Ahmedabad and Kishangarh.

Bhilwara Rajasamand 330 100% NA Toll FY16 30

Passes through the largest marble cluster in India. The management expects traffic diversion, as 50,000 PCUs pass between Ahmedabad and Kishangarh.

Rohtak-Hisar 332 100% NA Toll FY16 22 Lies on NH-10 which runs through Delhi, Haryana and Punjab.

KSHIP 193 100% NA Toll FY17 10 A Karnataka state government annuity project with `1.42bn cash inflows.


Sadbhav Engineering


Financial characteristics

We expect BOT revenue to grow sharply in the next 2-3 years, as majority of the projects are operational and large projects such as MBCP and Rohtak Panipat have ramped up. Moreover, traffic growth rates has picked up after plateauing for the last 2-3 years giving the slowdown in the capex cycle. We expect 28% revenue CAGR and 20% EBITDA CAGR over FY15-18E. We highlight that majority of the assets would be able to service interest from EBITDA (see Exhibit 14).

Exhibit 13: Sharp revenue growth as assets become operational


Exhibit 14: EBITDA generation to ramp up with revenue growth and margin expansion


Exhibit 15: Project-wise financial metrics

` mn unless mentioned Project cost Equity

Requirement Debt

(FY14) Revenue EBITDA Interest coverage

FY14 FY15 FY16 FY14 FY15 FY16 FY14 FY15 FY16

Ahmedabad ring road 5,150 521 4,629 738 837 958 338 750 863 61% 196% 240%

Aurangabad-Jalna 2,770 936 1,930 280 349 381 84 298 325 38% 163% 192%

MBCP 13,750 2,853 10,900 302 1,817 2,497 127 1,181 1,648 22% 101% 124%

Nagpur Seoni 3,174 435 2,625 385 386 386 336 366 366 164% 163% 167%

Bijapur-Hungund 14,200 1,055 10,676 950 1,060 1,215 684 929 1,062 75% 105% 123%

Dhule-Palesnar 14,200 1,155 9,924 1,106 1,325 1,508 913 1,094 1,246 80% 95% 111%

Hyderabad-Yadgiri 4,932 1,000 3,932 383 488 565 109 382 482 25% 102% 129%

Rohtak-Panipat 12,134 2,651 9,483 194 1,121 1,334 18 842 1,068 7% 79% 97%

Shreenathji Udaipur 12,800 3,328 9,472 - - - - - - Bhilwara Rajasamand 7,200 1,330 3,270 - - - - - - Rohtak-Hisar 12,716 1,058 9,543 - - - - - - Karnataka SH 7,893 800 4,693 - - - - - - Total 130,447 17,364 81,077 4,337 7,383 8,844 2,609 5,843 7,061 61% 107% 127%


4

6

8

10

12

14

-

2,000

4,000

6,000

8,000

10,000

12,000

14,000

FY12 FY13 FY14 FY15 FY16 FY17

(` mn)

Revenue (BOT) Assets operational (No) RHS

50%

55%

60%

65%

70%

75%

80%

-

2,000

4,000

6,000

8,000

10,000

12,000

FY14 FY15 FY16 FY17

(` mn)

EBITDA (BOT) EBITDA margin (RHS)

Sadbhav Engineering


Catalysts to NAV improvement Target traffic clause limiting traffic risk

A target traffic clause is embedded in the MCA of six of SIPL’s NHAI contracts (see the margin on the right), which means that the company would be provided extension of the concession period in case of lower than stipulated traffic as on the target date.

The clause states that if the actual traffic falls short of the target traffic (by 2.5%) as on the stipulated date, then the concession agreement would be increased by 1.5% for every 1% of traffic shortfall, subject to a cap of 20%. As per our calculations, we expect SIPL to achieve the maximum extension in the concession period for three of its operational projects i.e. Hyderabad Yadgiri, Rohtak Panipat and Bijapur Hungund, as even on optimistic traffic projections, the company will be way off the target traffic as on the target date.

Exhibit 16: Revision in concession period owing to traffic shortfall by target date

Road assets Target PCUs

Average (Our assumption) Shortfall Extension (%) Concession

period Extension

(Years) Value (Ex-extension)

Value ( with extension)

Inc in Value

Rohtak Panipat 23,800 20,597 (0.13) 20% 25 5.00 5,255 6,432 22.4% Bijapur-Hungund 39,338 25,842 (0.34) 20% 20 4.00 5,352 6,913 29.2%

Hyderabad Yadgiri 34,897 22,717 (0.35) 20% 23 4.60 1,793 3,084 72.0%


Refinancing: Sadbhav’s management estimates a 75-100bps interest rate reduction through refinancing in most of its asset portfolio. Assuming a 50-100bps interest rate reduction, the NAV increases by 5-7%.

Extension of debt repayment: Sadbhav is in negotiation with the banks to extend the loan repayment schedule of 6 of its road assets, given that these are cash generative and 15%+ IRR projects. This would improve NAV by 3-4%.

Road assets with extension Target Traffic Clause

Operational

Rohtak Panipat

Bijapur-Hungund

Hyderabad Yadgiri

Non-operational

Shreenathji Udaipur

Rajasamand Bhilwara

Rohtak Hisar

Source: Company

Sadbhav Engineering


Change in estimates We marginally increase construction revenue estimate owing to ahead-of-schedule execution of captive BOT contracts and execution ramp-up of the mining segment. We reduce toll income estimate in FY16 due to lower than expected revenue in Rohtak-Panipat and Maharashtra Border Check Post alongside muted WPI and hence lower toll increase.

Exhibit 17: Change in estimates

Particulars Old estimates New estimates Change (%)

Comments FY16E FY17E FY16E FY17E FY16E FY17E

Construction order book (total) 82,167 56,467 83,033 58,387 1.1% 3.4% No material change in order book.

Revenues 47,855 58,494 48,547 61,897 1.4% 5.8% We expect strong EPC execution (both in BOT and cash contracts) and higher order inflows, and hence we have increased our FY16 and FY7 construction revenue estimates. We reduce toll income estimates to account of lower revenues of Rohtak Panipat and reduction in toll increase assumption due to low WPI increase.

YoY growth (%) 23.9% 22.8% 27.4% 27.7% Standalone (Construction business) 40,001 47,060 41,254 50,905 3.1% 8.2%

Toll/Annuity 7,854 11,434 7,293 10,992 -7.2% -3.9%

EBITDA 10,813 14,516 10,574 14,457 -2.2% -0.4%

Reduction in BOT revenue led to lower EBITDA margins and EBITDA.

Standalone (Construction business) 4,323 5,199 4,803 5,810 11.1% 11.7%

Toll/Annuity income 6,490 9,318 5,772 8,648 -11.1% -7.2%

EBITDA margin 22.6% 24.8% 21.8% 23.4% (81.3) (146.0)

Standalone EBITDA margin 10.8% 11.0% 11.6% 11.4% 83.6 36.5 Toll/Annuity Income EBITDA margin 82.6% 81.5% 79.1% 78.7% (349.1) (281.7)

Depreciation 2,350 3,451 2,041 3,072 -13.2% -11.0% Lower depreciation is a function of change in depreciation rates as per the new Companies Act. Average depreciation rate 4.0% 4.6% 3.0% 3.6%

EBIT 8,463 11,066 8,533 11,385 0.8% 2.9%

EBIT margin(%) 17.7% 18.9% 17.6% 18.4% (10.7) (52.4)

Net Interest 5,859 9,571 6,203 8,656 5.9% -9.6%

Average interest costs 7.9% 12.2% 8.4% 11.0% Consolidated Adjusted PAT 2,030 1,019 1,619 1,725 -20.3% 69.2% Increase in PAT is due to higher EBITDA aiding better

interest and depreciation recovery. Consolidated Adjusted PAT margin 4.2% 1.7% 3.3% 2.8% -90.86

bps 104 bps

Cash profit 4,380 4,470 3,660 4,797 -16.5% 7.3%

Cash profit margin 9.2% 7.6% 7.5% 7.8% CFO 8,435 11,852 8,846 12,442 4.9% 5.0%

Consolidated debt :Equity 4.9 4.7 3.4 3.0

RoE 13.9% 6.5% 8.1% 7.1% -584 bps 58.2 bps Improvement in RoE driven by our expectation of slightly improved operational performance.


Sadbhav Engineering


Valuation – Quality premium! Sadbhav is amongst the few infrastructure developers in India, which has built a credible EPC franchise and owns a well-funded asset portfolio. Alongside, the company has relatively better quality accounts and corporate governance practices. Hence, we believe that the company deserves to trade at a relative premium to most other asset developers in India, which do not fare well on several of the above-mentioned parameters.

We value Sadbhav on an SOTP basis for the EPC and BOT businesses: (a) EPC business: Based on our DCF valuation, our valuation of `171/share implies a reasonable 13.5x FY16E EPS, and (b) SIPL: We value the BOT asset portfolio based on NAV for the remaining concession period; our valuation of `212/share implies 2.5x equity invested. We ascribe a value of `10/share to the O&M business of SIPL based on the DCF-based valuation.

Exhibit 18: SOTP valuation of ̀ 383/share

Business Equity value (̀ mn) SEL share ` per share FY15 Implied

PE FY16 Implied

PE FY15 Implied

P/B FY16 Implied

P/B

EPC business (A) 29,244 100.0% 171 17.9 14.0 2.2 1.9 SIPL BOT business value 53,797

3.4 2.7

SIPL- SA (O&M business) 2,175 Less: SIPL Debt—FY16 9,577 SIPL — Value for SEL (B) 46,396 78.3% 212

2.9 2.8

SOTP value (A)+ (B) 75,639

383 130.5 117.4 3.9 2.8 Source: Company, Ambit Capital research

EPC – Credible franchise; strong growth visibility We value the construction business using DCF valuation methodology wherein margins and working capital turnover are the key variables controlling the valuation. The company has a current order book of `89bn, implying LTM book-to-bill of 2.9x. We build in order inflows of `35bn in the roads segment over FY16-17E, which is a reasonable assumption, as Sadbhav is amongst the few infrastructure developers in India to benefit from the NHAI’s rising pace of order awards. As explained in the earlier section, we expect strong revenue growth in the next 2-3 years, given on-track execution of the road BOT contracts and mining orders. We assume EBITDA margin improvement of 50bps on account of the sharp drop in bitumen prices and several contracts entering the phase of high bituminous work. From a longer-term perspective, we expect revenue growth of 7-8% from FY18E onwards, tapering down to 5% by FY26 (terminal year). Our estimates imply a reasonable 13.5x FY16E EPS vs 15-16x multiple of similar Indian EPC companies.

Exhibit 19: PVFCFF for SEL


Exhibit 20: DCF assumptions summary

Period Revenue CAGR

EBITDA margin

range

Working capital

turnover range

Gross Block

turnover range

FY15-18E 32% 11-11.5% 2.6x-4.5x 3.2x-4.8x

FY18-22E 12% 9.5-10.3% 4.5x-4.8x 5.0x-5.5x

FY22-26E 7% 9.2-9.5% 4.4x-4.8x 3.9x-4.4x


5%

10%

15%

20%

25%

-500

0

500

1,000

1,500

2,000

2,500

FY16

E

FY17

E

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

E

FCFF (Rsmn) (LHS) RoIC (post tax) (RHS)WACC (RHS)

Sadbhav Engineering


Exhibit 21: Sensitivity of valuation of SEL’s construction business

Terminal Growth

WA

CC

170 2% 3% 4% 5% 6%

12% 194 205 219 237 262

13% 173 181 192 205 222

14% 156 162 171 180 192

15% 141 146 152 160 169

16% 129 133 137 143 150


SIPL – A marquee, well-funded roads portfolio NAV-based valuation for the asset portfolio

We calculate the net asset value (NAV) of each BOT asset of the company. NAV-based valuation specifically captures the value contributed/risk associated with each asset, and therefore it is best suited to calculate the value of BOT assets (as compared to a P/B-based valuation). We include the NAV-based value of the projects that have achieved financial closure but exclude the value of assets that are yet to achieve financial closure. Traffic growth in SIPL’s road assets picked up during FY15 (~7-8% across roads, barring Hyderabad Yadgiri, wherein the growth was as high as 13%). We build in traffic growth of 8-9% in FY16 (13% for Rohtak Panipat). Thereon, we model traffic growth of 6-7% for the next three years and gradually taper it down to 3-4% over the rest of the concession period for all the assets (broadly in line with the steady-state GDP growth in India). For yet-to-be operational assets, we assume revenues to be 15% below the management’s guidance and assume a gradual ramp-up in traffic. Our valuation of SIPL’s road asset portfolio i.e. `46bn (`212/share) implies 2.8x equity invested.

DCF valuation for the O&M business We value the O&M business (revenues booked in SIPL Standalone for maintenance of the SPVs assets) based on a DCF methodology till the end of the concession period.

Exhibit 22: Valuation split of the BOT assets

Projects SIPL Share

Equity committed at

end-FY15 (̀ mn)

Equity committed at

end-FY16 (̀ mn)

% share of equity

invested Equity IRR

Equity Value (SIPL

share) (̀ mn)

NAV/share (SIPL share)

% of total NAV/share

Operational assets ARRIL 100% 521 521 3% 22.5% 6,353 45 11%

MNEL* 20% 242 242 2% 17.1% 720 16 1%

AJTIL 100% 936 936 6% 17.5% 2,873 20 5%

NSEL 51% 435 435 3% NA 54 0 0%

BHT 77% 1,055 1,055 7% 26.0% 6,209 41 11%

DPT 40% 1,155 1,155 8% 5.3% 1,470 10 3%

HYT 100% 1,000 1,000 7% 12.3% 3,690 26 6%

MBCP 78% 2,853 2,853 19% 25.8% 9,199 61 16%

RPT 100% 2,651 2,651 17% 10.1% 6,285 44 11%

Under-construction assets SUTPL 100% 1,828 3,328 12% 15.6% 11,651 82 20%

BRTPL 100% 1,330 1,330 9% 18.0% 5,388 38.0 9%

RHTPL 100% 858 1,058 6% 22.9% 4,829 34.1 8%

KSHIIP 100% 400 800 3% 54.0% 564 3.3 1%

Total (BOT projects) 15,264 17,364 59,286 Less SIPL net debt at end of FY16E (9,582) (56) -20%

Total 15,264 17,364 - 0%

Source: Company, Ambit Capital research. Notes: (1) The company entered into a share purchase agreement with D Thakkar Construction Pvt limited on 18 September 2013 to issue 10,903 equity shares of MBCP (representing 21.8% stake in MBCP) for a consideration of Rs103.4mn equity and Rs622mn subordinate debt (Rs720mn overall consideration, representing 21.8% stake in the company, we do not factor that in our assumptions. (2) Our estimates factor in 100% stake in ARRIL and HYTPL. (3) The company recently sold its stake in MNEL to Gammon for Rs720mn, which we ascribe as the valuation for the project.

Sadbhav Engineering


SIPL IPO to generate growth capital… Sadbhav recently filed the DRHP for listing its asset holding subsidiary–Sadbhav Infraprojects (SIPL). Moreover, the DRHP mentions that the PE partners, Xander and Norwest, would divest 10% of their shareholding in SIPL for `6bn, which in turn implies a valuation of `60bn for SIPL, if the IPO goes through.

In a recently, published thematic (click here insert the demerger thematic), we highlighted that listing of the roads subsidiary should help in the valuation discovery of SIPL, as it offers investors an opportunity to play on the expected traffic revival in India, without exposure to the cyclical and working-capital-intensive construction business. Receding competition in the BOT space, better terms in the upcoming bids and stake acquisition opportunity in stuck road projects, position SEL favourably in the roads sector. SIPL owns a large, cash-generative and well-funded asset portfolio (a rarity amongst developers in India) and hence it could list at a premium (~2.5-3x equity invested) to global toll road operators (1.5-2x equity invested) which implies a valuation of `45bn-50bn, just 5-10% upside. SIPL’s recent minority transactions at 4x P/B were higher than consensus estimates.

…and bridge the equity mismatch Our key concern previously on the company was the significant equity shortfall, which the company addressed first through termination of Solapur Bijapur (reduced equity needs by `3bn) followed by a QIP and rights issue (cash inflows of `3.2bn).

The equity issuances at the SIPL level (indicated amount of ~`6bn) would enable short-term debt repayment to SEL and also help generate surplus growth capital of `2.5bn.

Exhibit 23: Expect surplus equity of `8.3bn over FY15-17E post the SIPL IPO

Surplus (Deficit) cash analysis

(̀ mn unless mentioned) FY15E FY16E FY17E Total

[A] SIPL Level

Cash Outflow 6,290 6,267 7,506 20,063

Equity Needs 2,064 1300 3,364

Interest Payments 4,226 4,967 7,506 16,699

Cash Inflow 6,353 9,013 7,241 22,607

CFO 4,553 5,513 8,241 18,307

Debt at SIPL SA 1,200 -1000 200

Loans from SEL 600 -2500 (1,900)

Equity Issuances 0 6000 0 6,000

Net Cash Inflow/(Outflow) 62 2,747 (266) 2,543

[B] SEL Level

Cash Outflow 2,908 1,377 1,860 6,145

Capex 1,000 750 850 2,600

Interest Payments 1,308 1,127 1,010 3,445

Debt Repayments 0 2,000 0 2,000

Loans to SIPL 600 -2500 (1,900)

Cash Inflow 5,155 2,945 3,873 11,973

CFO 1,955 2,945 3,873 8,773

Equity Issuances (QIP and Rights Issue) 3200 3,200

Net Cash Inflow/(Outflow) 2,247 1,568 2,013 5,828

Total [A] +[B] 2,309 4,315 1,747 8,371


http://webambit.ambit.co/reports/Ambit_Strategy_Thematic_Demergers_10Mar2015.pdf

Sadbhav Engineering


Is there any valuation discovery left? The base case valuation (as per our NAV-based valuation) implies a valuation of 2.8x equity invested, which seems fair for the asset portfolio, offering equity IRR of 17-18%. The optimistic case assumes a 3.0x multiple to the equity invested, which is achievable given that SIPL owns a good and well-funded asset portfolio. The highly optimistic case implies a 3.5x multiple to the equity invested (similar to the indicated levels of the SIPL IPO), which we believe is stretched and the rationale to pay such rich valuations could be dearth of alternative investment avenues in similar quality asset portfolios.

Exhibit 24: Some scope of valuation discovery left

(̀ mn unless mentioned) Metric Used Base case Optimistic case Highly optimistic case


SEL FY 16 PAT 2,085 13.5 28,148 13.5 28,148 13.5 28,148

SIPL (for 78.3% stake held by SEL) Equity invested 16,782 2.8 36,793 3.0 39,421 3.5 46,122

Total Value 64,940 67,568 74,270

Current Mcap 57486 57486 57486

% upside 13.0% 17.5% 29.2%


Cross-cycle valuation at cyclical peaks Sadbhav trades at 2.6x FY16E P/B, at five-year peak multiples and a 55% premium to the five-year average P/B. Note that 12 months ago the stock traded at 1.0x one-year forward P/B. The recent re-rating can be explained partially by company-specific factors (strong EPC execution and revival in traffic growth at major toll roads) but a large part of the re-rating has been based on the Government’s intent (and positive announcements) on reviving the roads sector. Further requires positive surprise in execution, order inflows or traffic growth (our estimates are already on the upper band of expectations). .

Exhibit 25: Sadbhav is trading at a 55% premium to the five-year average P/B and…


Exhibit 26: …a 50% premium to Ashoka and IRB


0

1

1

2

2

3

3

Jan-

09

Sep-

09

May

-10

Jan-

11

Sep-

11

May

-12

Jan-

13

Sep-

13

May

-14

Jan-

15

(X)

Sadbhav PB (x) Average one-yr fwd P/B

-

1.0

2.0

3.0

4.0

5.0

6.0

Oct

-10

Feb-

11

Jun-

11

Oct

-11

Feb-

12

Jun-

12

Oct

-12

Feb-

13

Jun-

13

Oct

-13

Feb-

14

Jun-

14

Oct

-14

Feb-

15

(X) One-yr fwd P/B

Ashoka Sadbhav IRB

Sadbhav Engineering


Concerns: Disclosures and bandwidth Concern#1: Poor disclosure standards We highlight that the management has displayed poor disclosure standards and we believe that on three occasions in the last two years, the disclosure timing could have been better. Below are the instances:

Fraud allegation by minority shareholders of Bijapur-Hungund: The SPV (Monte Carlo Construction, 23% equity stake) alleged fraud on Sadbhav for siphoning off funds and under-reporting of toll income. The case was reported by the media on March 2014, whilst the issue emanated in April 2010. Although the case has been stayed by the High Court and has not had any negative financial impact, we raised concerns on the poor disclosure quality.

Toll collection stopped at Aurangabad Jalna: The company’s toll collection at Aurangabad Jalna was stopped for 35 days in November 2013; however, the shareholders were informed only in February 2014 (with the results press release).

Stake sale in MBCP: As per the recently filed DRHP of Sadbhav Infraprojects (asset holding subsidiary of SEL), the company entered into a share purchase agreement with D Thakkar Construction Private Limited on 18 September 2013 to issue 10,903 equity shares of MBCP (representing 21.8% stake in MBCP) for a consideration of `103.4mn equity and `622mn subordinate debt (`720mn overall consideration). If this agreement was entered into 15 months back, why did the management not make any public disclosures till the DRHP was filed in December 2014?

We highlight that D Thakkar (promoters - Praveen Thakkar, Jigar Thakkar and Vishal Thakkar, holding 50% of the share capital) previously tied-up with SMS Infrastructure (promoter - Ajay Sancheti, Rajya Sabha MP) for irrigation projects in Vidarbha (alleged fraud of `20bn) (Source: http://timesofindia.indiatimes.com/city/nagpur/Clever-Sancheti-milked-state-for-irrigation-contracts/articleshow/7031623.cms)

Concern#2: Management bandwidth Sadbhav remains a promoter-driven entity and the promoters and family members drive most of the strategic decisions (such as project bids). Given the significant increase in the size of the business, we believe that the limited management bandwidth could be a constraint in the future unless the management inducts professionals at key managerial roles.

Sadbhav Engineering


Key catalysts Toll ramp-up at Rohtak Panipat and Maharashtra Border Check Post: Toll collection at Sadbhav’s two largest assets, Rohtak Panipat and Maharashtra Border Check Post has been lower than the management’s expectation by 25-20%. Improvement in toll collection with leakage reduction at both these assets would significantly improve revenue growth for SIPL.

Successful equity issuance at SIPL: The company has already filed a DRHP to list SIPL and the money raised would aid in reduction of standalone leverage and provide growth capital for future bids. Successful completion of the same would be a key positive.

Refinancing: The company expects to achieve refinancing at five assets, which would bring down interest cost by 50-100bps at these assets and reduce cash outflow and improve NAV.

Large order inflow in the roads BOT segment: The NHAI has not awarded any major road BOT projects in the past 12 months (due to multiple issues), which is raising concerns on the order inflow momentum of most of the pure road developers and therefore, adversely impacting their stock prices. Given that Sadbhav has the requisite pre-qualification and the balance sheet strength, any improvement in the NHAI’s pace of awarding BOT projects can lead to an order inflow of `15bn-20bn for Sadbhav, which can drive the stock price higher.

Key risks Toll and traffic risk: Traffic growth has a direct correlation to GDP and if GDP fails to improve materially during FY15-16, traffic growth will be muted. Moreover, muted increase in WPI will impact toll rate hikes in FY16. In case of poor traffic growth and low toll increases, the cash flow generation will be low and in turn the NAV of the road assets will be lower than our current estimates.

Aggressive bidding: The company will have spare equity to infuse in BOT assets, post the SIPL listing and if bids aggressively as and when the NHAI order awards pick up, the IRR of its road asset portfolio will dilute.

Delay in receiving COD can lower toll revenues over FY15-18E: We expect toll revenues to more than double over FY15-18E, as 100% of the invested equity will become operational in end-FY17. Any delay in receiving COD for the two large projects (MBCP and RPT) that are likely to become operational in FY14 can lower toll revenues and consolidated CFO over FY15-18E.

Exhibit 27: Explanation for our flags

Segment Score Comments

Accounting AMBER Sadbhav’s accounts appear average comparison with peers like Ashoka, given its longer cash conversion cycle and low CFO-EBITDA.

Predictability AMBER Sadbhav has often disappointed with lagged disclosures on key developments such as stake sale in a large SPV, toll stoppages and a High Court case.

Earnings Momentum AMBER Consensus earnings estimates have been marginally downgraded in the last month.


Sadbhav Engineering


Balance sheet (Consolidated)

Y/E March (̀ mn) FY14 FY15E FY16E FY17E

Share capital 152 171 171 171

Reserves and surplus 12,333 16,640 22,977 25,479

Total Networth 12,500 16,826 23,164 25,666

Minority 1,532 1,276 1,146 969

Loans 57,713 71,765 79,543 80,573

Sources of funds 72,102 90,225 104,208 107,565

Gross Block 65,405 66,046 67,896 101,800

Net block 60,667 59,504 59,313 90,145

Capital work-in-progress 9 22,189 37,154 7,898

Investments 1,284 1,284 1,284 1,284

Inventories 1,638 769 999 1,236

Sundry debtors 5,758 8,731 12,498 14,038

Cash and bank balances 1,280 5,419 1,711 3,032

Loans and advances 7,824 2,242 3,595 4,973

Other current assets 743 675 778 881

Total Current Assets 17,244 17,836 19,581 24,161

Current Liabilities 5,887 9,383 11,806 14,450

Provisions 1,725 1,206 1,318 1,473

Current liabilities and provisions 7,613 10,589 13,124 15,923

Net current assets 9,631 7,247 6,457 8,237

Misc Expenses - - - -

Application of funds 72,102 90,225 104,208 107,565

Source: Company, Ambit Capital research. Note: Forward-looking estimates are our previously published estimates

Income statement (Consolidated) Y/E March (̀ mn) FY14 FY15E FY16E FY17E

Revenue 27,325 38,723 49,338 63,013

% growth 26.5% 41.7% 27.4% 27.7%

Total expenses 22,870 30,447 38,763 48,555

Adjusted EBITDA 4,456 8,276 10,574 14,457

Adjusted EBITDA margin 16.3% 21.4% 21.4% 22.9%

Net depreciation / amortisation 1,305 1,803 2,041 3,072

EBIT Reported 3,459 6,472 8,533 11,385

Net interest 4,556 5,699 6,203 8,656

Other income 54 249 258 266

Adjusted PBT (1,097) 1,023 2,588 2,995

Reported PBT 119 1,023 2,588 2,995

Provision for taxation (141) 609 1,041 1,446

Adjusted PAT (773) 559 1,619 1,725

PAT margin -2.8% 1.4% 3.3% 2.7%

Reported PAT 444 559 1,619 1,725

Adjusted EPS (diluted) ` (4.9) 3.3 9.4 10.1


Sadbhav Engineering


Cash flow statement (Consolidated)

Y/E March (̀ mn) FY14 FY15E FY16E FY17E

PBT 573 1,023 2,588 2,995

Depreciation 1,305 1,803 2,041 3,072

Others 2,816 5,339 5,886 8,389

Direct taxes paid (561) (609) (1,041) (1,446)

Change in working capital 3,732 7,042 (3,031) (613)

CFO 7,864 6,870 8,846 12,442

Purchase of fixed assets (10,906) (12,042) (22,821) (16,815)

Investments 351 (774) 249 258

Interest received 253 249 258 266

Others (947) - - -

CFI (14,578) (22,571) (16,557) (4,382)

Proceeds from borrowings 11,623 14,052 7,777 1,031

Equity raised 267 3,224 - -

Interest and finance charges paid (4,555) (5,699) (6,203) (8,656)

Dividends paid (106) (125) (115) (227)

CFF 7,229 11,452 1,459 (7,853)

Net change inflow/(outflow) 516 (4,249) (6,252) 207

Cash at the beginning 581 1,280 5,419 1,711

Cash at the end 1,097 5,419 1,711 3,032

Free cash flow (4,179) (15,951) (7,969) 7,793


Ratio analysis (Consolidated) Performance ratios FY14 FY15E FY16E FY17E

Growth (YoY) Sales 27% 41% 32% 26%

EBITDA 16% 85% 44% 33%

Adj. PBT 145% -191% 203% 14%

Adj PAT 10% -214% 200% -3%

EBITDA Margin (%) 16.3% 21.4% 21.4% 22.9%

Debt:Equity 4.6 4.3 3.4 3.1

Net debt/Equity 4.5 3.9 3.4 3.0

Working capital turnover (x) 3.7 13.5 57.3 23.5

Gross block turnover (x) 0.5 0.6 0.7 0.7

ROCE 10.5% 3.2% 5.3% 5.6%

ROE 3.6% 3.8% 8.1% 7.1%


Valuation parameters (Consolidated) Valuation metrics FY14E FY15E FY16E FY17E

Adjusted EPS basic (`) (5.1) 3.3 9.4 10.1

Adjusted EPS diluted (`) (5.1) 3.3 9.4 10.1

BVPS 83 98 135 150

P/E (45.0) 67.5 23.3 21.9

P/B 2.9 2.1 2.8 2.4

EV/EBITDA 20.1 12.0 10.5 7.6


Sadbhav Engineering


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Key Financial Consolidated Year to March FY13 FY14 FY15E FY16E FY17E

Net Revenues (` mn) 18,527 17,949 18,714 24,231 28,849

Operating Profits (` mn) 3,719 3,945 3,693 6,899 7,940

Net Profits (` mn) 999 1,131 -400 1,597 714

Diluted EPS (`) 6.3 7.1 -2.5 10.0 4.5

RoE (%) 8.0% 6.4% 4.4% 8.4% 8.3%

RoCE (%) 8.0% 6.4% 4.4% 8.4% 8.3%

P/B (x) 2.6 2.2 1.7 1.7 1.7


The fittest in the fray

Ashoka Buildcon stands out as the best on our ranking of road developers, due to its strong EPC franchise and efficient capital allocation and cash management. Muted road order inflows in the last 2-3 years limit EPC revenue growth visibility (17% CAGR over FY15-18E); however, Ashoka is strongly positioned to bag NHAI orders, which would lead to acceleration in its revenue growth over FY15-18. The company has a well-funded asset portfolio in Ashoka Concessions Ltd (ACL), along with surplus cash (`2.5bn over FY15-17) and levers to generate further growth capital to participate in the BOT opportunity. Ashoka is our preferred best on the road sector revival in India. Our TP of `234 implies 2.5x FY16E P/B.

Competitive position: STRONG Changes to this position: POSITIVE Sensible developer with a strong parent balance sheet Ashoka has vast experience in lifecycle road development. It has maintained sanity in road construction through: (a) consortium bidding in large projects, followed by a strategic partnership with SBI-Macquarie, and (b) financial discipline in the construction business, low leverage and nearly 100% CFO-EBITDA conversion. In a sector plagued with excess leverage, stuck projects and poor developer health, Ashoka’s financial strength positions it favourably. Order book depletion not a concern Whilst Ashoka’s order book (`34bn; 2.1x book-to-bill in FY16) has depleted with near-completion of captive BOT contracts, we expect significant order inflows in the next 12 months, as NHAI order awards pick up; Ashoka’s balance sheet capability provides confidence. We expect `42bn order inflows over FY15-18E and build in 17% EPC revenue CAGR, with stable EBITDA margins of 12%; our estimates imply 16% EBITDA CAGR over FY15-18. A well-funded BOT portfolio waiting for macro triggers ACL owns a well-funded asset portfolio of eight roads (3,124 lane kms), out of which seven collect toll. Its portfolio’s traffic growth could accelerate significantly after the iron ore mining ban is lifted and after coal production rises in east India. Despite the high cash losses at assets like Sambhalpur, Ashoka would generate `2.5bn surplus cash over FY15-17. Also, it has levers to generate growth capital through equity/debt issuances at ABL and ACL.

Valuation - Deserves more recognition Investor concerns on Ashoka would wane, with road order inflows and mining resumption in east India, which in turn would narrow the valuation discount with Sadbhav (1.8x FY16E P/B vs 2.8x for Sadbhav). Our SOTP value is `234—`113 for the construction business (13x FY16 EPS); `19 NAV value of ABL’s BOT assets and `102 for ABL’s 61% share in ACL (implying 1.9x equity invested of `14bn as of end-FY16E). Risks: Delayed resumption in mining.

COMPANY INSIGHT ASBL IN EQUITY March 31, 2015

Ashoka BuildconBUY


Recommendation (as on 27/03/2015) Mcap (bn): `27/US$0.4 6M ADV (mn): `52.5/US$0.8 CMP: `170 TP (12 mths): `234 Upside (%): 39

Flags Accounting: GREEN Predictability: GREEN Earnings Momentum: AMBER

Catalysts

Pick-up in order inflows in FY16, with NHAI awards gathering pace

Ramp up in traffic growth with resumption of iron ore mining

Sharp toll income growth from FY16 onwards, with commissioning of large BOT road contracts

Performance (%)

Source: Bloomberg, Ambit Capital Research

60

110160

210260

Mar

-14

May

-14

Jul-

14

Sep-

14

Nov

-14

Jan-

15

Mar

-15

ABL SENSEX index

Analyst Details

Achint Bhagat

Tel: +91 22 3043 3178

[email protected]

Nitin Bhasin

Tel: +91 22 3043 3178 [email protected]

Ashoka Buildcon


Sensible, balance-sheet-focused developer Ashoka Buildcon (ABL) is a mid-sized road contractor and developer, with over three decades of experience in road construction. It entered the BOT space in 1997 and has a portfolio of 25 road assets, out of which 8 large projects are in its subsidiary, Ashoka Concessions Limited (ACL) wherein SBI Macquarie owns ~39%. ABL’s strong balance sheet, vast experience in lifecycle road development and financial discipline position it amongst the strongest road developers in India.

A well-established EPC franchise Ashoka Buildcon has constructed 60 roads (including its own projects and third-party contracts) using its own in-house execution capabilities (ranging from traffic estimation team and RMC plants to construction works). In the construction business, the company has maintained financial discipline by: (a) focusing on cash flow generation rather than chasing revenue growth, and (b) lowering debt:equity to manageable limits (0.3x as at end-FY14). Unlike several of its peers (such as Sadbhav and IRB), Ashoka has not taken debt to fund the cash needs at the parent level, and two-thirds of its cash needs has been funded through CFO. Almost 71% of the CFO over FY07-14 has been invested to meet the equity needs of road SPVs.

Exhibit 1: CFO has funded majority of the cash needs at the parent level (over FY07-14)


Exhibit 2: Almost 71% of the cash generated has been infused in road SPVs (over FY07-14)


Exhibit 3: Stable cash flows and low debt/equity


Exhibit 4: Recent decline in RoCEs is on account of rising investments in subsidiaries


CFO, 64%

Equity raise, 14%

Debt (net), 0%

Non operating income,

22%

Capex, 18%

Inc in cash, -3%

Interest paid, 13%

Dividend, 2%

Investments in BOT assets, 71%u

-

0.2

0.4

0.6

0.8

1.0

-

1,000

2,000

3,000

4,000

5,000

FY10

FY11

FY12

FY13

FY14

FY15

E

FY16

E

FY17

E

(X)(` mn)

CFO FCF Debt/Equity (RHS)

10%

12%

14%

16%

18%

20%

22%


RoE RoCE (ex-investments in Subs)

Ashoka Buildcon


EPC revenue growth hinges on order inflows Ashoka recorded EPC revenue CAGR of 37% over FY09-14 alongside stable EBITDA margins of 12-13%, as the company was executing the captive BOT orders. As most of the construction of the captive orders has been completed, the company’s order book has shrunk materially. Its current order book of `33bn implies 2.3x LTM book-to-bill, providing nominal growth visibility. However, we expect significant order inflows in the next few quarters due to the NHAI’s order awards, which should favour ABL given its execution/balance sheet capacity (the company recently won a `2.2bn EPC contract from the NHAI). We expect construction revenue CAGR of 15% over FY15-18 with a high likelihood of an upward surprise.

Currently, the power T&D business forms 55% of the company’s order book (mainly in Maharashtra, Bihar and Tamil Nadu). Although the working capital cycle of T&D orders is longer than roads, given that the company executes orders for projects funded by PFC and REC, we do not see major concerns.

Exhibit 5: Construction order book of `34bn; 2.3x LTM book-bill


Exhibit 6: EPC revenues to ramp up as order inflows rise


Roads , 44%

Power T&D, 56%

(`34bn)

-10%

0%

10%

20%

30%

-

5,000

10,000

15,000

20,000

25,000


(` mn)

Roads Power T&D

Others YoY growth (RHS)

Ashoka Buildcon


BOT portfolio hinges on the mining belt Nearly 55-60% of the total asset portfolio is concentrated on NH-6, which runs through states with high densities of commercial/industrial traffic (Maharashtra, Madhya Pradesh and West Bengal) and large mineral reserves (Chhattisgarh and Orissa). ABL started winning smaller projects on NH-6 and thus gained a competitive advantage over others (in terms of credible and more realistic traffic estimation) before bidding for larger projects. Currently, ABL has a portfolio of nine road assets on NH-6, ~24% PPP share on stretch.

Exhibit 7: 60% of ABL’s portfolio is concentrated on NH6


ACL: BOT portfolio - Eight assets; four run through NH6

ACL has a portfolio of eight road assets (seven out of the eight assets are collecting toll). Four of Ashoka’s largest contracts run through the NH6, and due to the mining ban in Orissa, traffic growth has suffered. The recent MMDR Bill resolved the legal overhang from the iron ore mines and hence a quick recovery in traffic is likely on the route. Moreover, our metals and mining analyst believes that coal production in India could double in the next five years which would be beneficial for Ashoka.

Exhibit 8: Ashoka’s BOT asset portfolio


-

200

400

600

800

1,000

-

10,000

20,000

30,000

40,000

Oct

, 20

00

Mar

ch, 2

001

Sept

, 20

07

Jan,

200

8

Dec

, 20

11

Jan,

201

2Cum. cost of NH-6 projects (ABL share) (Rsmn)Cum lane kms of NH-6 projects (ABL share) (RHS)

ABL (61-66%) MSIF and SMIT (39%)

ACL

Jaora Nayagaon

PimpalgaonGonde

BelgaumDharwad

Bhandara Durg Sambhalpur

Dhankuni Kharagpur

ACL-23% SPML +SREI-

ACL-26% L&T -74%

ACL-100%

ACL-100%

ACL-100%

ACL-51% IDFC PE - 49%

ACL-51% IDFC PE - 49%

Chennai ORR

ACL-50%

These four assets fall on the NH-6

Ashoka Buildcon


Exhibit 9: Characteristics of ACL’s BOT portfolio

Road Lane Kms ACL's Holding (%) Partner Type Concession

period Traffic Drivers

Bhandara Road 320 51 IDFC Toll 20 Single stretch from Bhandara to Durg, near Nagpur which is a finished goods distribution hub, closer to Raipur, Bhilai which have steel plants of large companies

Durg Bypass, Chhattisgarh -Maharashtra Border Road

332 51 IIF & IDFC Toll 20

Dhankuni – Kharagpur 841 100 NA Toll 25

Material/finished goods to east India states, traffic from Haldia post to north and south India states; West Bengal has large coal mining belts

Jaora – Nayagaon Road 319 23

SPML, Viva Infrastructure Pvt Ltd, PNC Constructions Co. Ltd

Toll 25 Connects major cities and different villages in MP and passes through 2-3 railway lines/stations

Belgaum-Dharwad 454 100 NA Toll 30 Traffic growth is dependent on commercial vehicles plying between Mumbai and Bangalore on the Golden Quadrilateral

Sambalpur-Baragarh 408 100 NA Toll 30 Raw material and minerals north to south, rich mining belt in Orissa

Chennai ORR 183 50 GVR Infra projects Ltd Toll 20 Encompasses all the entry points in Chennai

Pimpalgaon – Nashik – Gonde road 452 26 Larsen & Toubro Toll 20 Strong north to south commercial traffic on Mumbai-Agra

NH Source: Company, Ambit Capital research

NH-6 runs through Gujarat, Maharashtra, Chhattisgarh, Orissa, Jharkhand and West Bengal. Whilst Gujarat, Maharashtra and West Bengal are high industry activity states and are amongst the top-7 states contributing to GDP growth; Chhattisgarh, Orissa and Jharkhand are mineral-rich states, with iron ore, bauxite and aluminium mines.

Exhibit 10: Four of Ashoka’s roads pass through the NH-6

Source: Source: Google maps, Company, Ambit Capital research. Notes: (a) (A) represents Bhandara, (B) represents Durg, (C) represents Sambhalpur (D) represents Dhankuni, and (E) represents Kharagpur. All the projects are around Orissa, West Bengal and Jharkhand, which are mineral-rich states

Ashoka Buildcon


Well-funded portfolio Ashoka’s stable and cash-generative EPC business alongside cash accruals from smaller BOT assets (housed under ABL) would mean that the company would not only be able to fund the cash losses of ACL’s roads but also generate surplus equity of `2.5bn over FY15-17.

Exhibit 11: Expect surplus cash generation of ̀ 2.5bn

` mn unless mentioned FY15E FY16E FY17E Total FY15-17E

Cash outflow

Equity requirements 610 275 885

ACL assets’ interest payments 3,644 4,570 4,595 12,809

ACL assets’ debt repayment 500 500 1,000

Standalone Capex 800 1,000 500 2,300

Standalone interest payments 235 251 267 753

Total Cash outflow (ACL+ABL) 5,289 6,595 5,862 17,746

Cash Inflows

Equity to be financed by

Consolidated cash-FY14 end (REPORTED) 945 945

SBI-Macquarie 1,100 0 0 1,100

EQUITY available 2,045 0 0 2,045

ACL CFO* 2,041 3,684 4,484 10,209

ABL CFO (ex BOT assets) 494 1,622 1,916 4,032

CFO from ABL BOT assets 1,223 1,335 1,361 3,919

Total cash inflows 5,803 6,642 7,761 20,206

Excess Cash Inflows 2,459


Further space to raise growth capital Unlike many of its peers, Ashoka has not exhausted its avenues to raise growth capital. The company has a fully-funded asset portfolio, and we believe that the company could raise debt or equity at the parent level or dilute its stake in ACL through an IPO to raise further growth capital, as and when good BOT contracts are bid out.

Debt at the ABL level: ABL’s standalone debt/equity was a comfortable 0.23x as on end-FY14 (the lowest amongst the peer group) and the company could raise debt at the parent level.

Equity issuances at ACL level: The company could list ACL in the future to provide an exit to SBI-Macquarie and raise cash for future equity infusion. Moreover, SBI-Macquarie could merge its road assets in ACL in the future and hence create a large entity for valuation discovery.

Dilution at ABL level: The company already has Board approval in place for a `5bn QIP. Recently, the managing director highlighted, “We will raise ` 500 crore 9`5bn) via qualified institutional placement (QIP). The funds will be used for bidding new projects and developing few existing projects. This will help us to reduce risk premium. We are in a formidable position and want to maintain rate of growth in future”.

Ashoka Buildcon


Updates on the BOT portfolio The table below summarises the recent management commentary and other updates on Ashoka’s BOT portfolio.

Exhibit 12: Recent updates on ACL’s BOT assets

Road Comments

Bhandara Road

Refinancing of ̀ 3.24bn of debt at a lower interest rate of 11.5% i.e. reduction of around 150bps from the earlier borrowing

Further refinancing possible on `1.74bn by resorting to IDFC bond-related debt which will bring the interest rate to 10.58 % (reduction by 1%)

Toll collection per day is around 1.38mn

The agreement contains a clause to increase the concession period by 20% if the target traffic is not met

The growth in traffic is not on account of diversion and is ongoing growth

The company has not started charging for over-loaded vehicles yet, but may start the same soon

Durg Bypass, Chhattisgarh -Maharashtra Border Road

Toll collection per day is around ̀ 1.76mn

Refinancing expected in May

This project has witnessed a decent traffic growth in the last few months (12-13% growth in toll collection)

The growth in traffic is not on account of diversion and is ongoing growth

The company has not started charging for over-loaded vehicles yet

Partial maintenance has started which will be completed in the next 1.5 years

Toll rate hike of around 10.25% (in 1QFY15)

Dhankuni – Kharagpur

Revised toll rates from 1 April 2014

~80.2 % construction completed

Toll collection per day is estimated to be around ̀ 5.85mn

Premium rescheduling likely to be received from the NHAI by 1 April 2015

The agreement contains a clause to increase the concession period by 20% if the target traffic is not met

Jaora – Nayagaon Road

ICICI Bank had sanctioned `6.13bn to re-finance the existing project loan of `5.40bn, rate of interest had been reduced by 90bps, the proceeds were used for repayment to the creditors of Jaora-Nayagaon Toll Road Company Limited

Toll collection per day is around ̀ 3.47mn

Toll rate hike of around 10% in 2QFY14 and around 7% (from 1 April 2014)

Belgaum-Dharwad

Toll collection started from May 2011

Toll collection per day is ~`1.80mn

Expected refinancing in May 2015

Received premium rescheduling for this project

Sambalpur-Baragarh

Provisional completion certificate received and partial toll collection started from 1 October 2014 Toll collection per day is around ̀ 1mn, toll collection less than the estimates on account of ban of mining activities in the region

On full completion, the toll collection can be around `1.3mn

On full commissioning + removal of the mining ban, the per day toll collection can be around ̀ 2mn

The company is planning to apply to NHAI for premium rescheduling

The agreement contains a clause to increase the concession period by 20% if the target traffic is not met Supplementary agreement has been signed for this project to waive off any outstanding claims

Pimpalgaon – Nashik – Gonde road

The full toll collection commenced from 23 May 2014

Toll fare hike of around 5.5% effective from May 2014

Further since the project has been completed, in terms of toll collection the percentage hike for the company has been around 200% Toll collection of around ̀ 3mn/per day (toll collection started in May)

Chennai ORR

35.3% construction completed

The project has a grant of `1.97bn and 35 semi-annual annuity of `1.20bn

Project estimated to be completed six months before schedule, because of which ABL will be entitled to a bonus annuity of around ̀ 1.20bn and savings in ICD

Received `1bn from project disbursements in Chennai ORR and power T&D projects which helped to reduce the working capital requirement


Ashoka Buildcon


ACL - Financial characteristics Post the commissioning of Dhankuni-Kharagpur in 1QFY16, seven of ACL’s eight BOT assets would be operational. We expect 36% BOT revenue CAGR over FY14-19E, as the toll collection at operational assets ramps up. We believe there could be a significant reset in traffic count at few of Ashoka’s assets (especially Sambhalpur), as mining operations resume in nearby states; however, we do not build this into our estimates, given limited visibility as of now. Although interest expense has risen materially from FY15 onwards (167% of EBITDA), we believe that the company would be able to service interest costs from project cash flows from FY17 onwards and generate surplus cash for debt repayment from FY18 onwards. Please see Exhibit 15 for our project-wise revenue, EBITDA and interest coverage expectations.

Exhibit 13: Sharp BOT revenue growth as assets ramp-up


Exhibit 14: Significant EBITDA growth to improve interest coverage from FY16 onwards


Exhibit 15: ACL - Financial summary

Particulars (̀ mn) Project

Cost Equity

Invested

Equity Invested

(ACL Share)

Revenues (̀ mn)

EBITDA (̀ mn) Int/EBITDA

` mn ` mn ` mn FY15 FY16 FY17 FY15 FY16 FY17 FY15 FY16 FY17

Bhandara Road 5,350 1,603 818 570 622 725 428 467 581 129% 119% 95%

Durg Bypass 5,870 2,205 1,125 685 741 848 583 630 722 76% 70% 61%

Dhankuni-Kharagpur 22,050 3,778 3,778 - 1,327 1,627 1,010 1,266 NA NA 161%

Belgaum-Dharwad 6,940 1,972 1,972 603 658 760 480 524 608 108% 98% 77% Sambhalpur-Baraghar 11,420 1,222 3,322 220 544 1,056 177 455 895 285% 244% 122%

Jaora-Nayagaon Road 8,350 2,948 678 1,231 1,350 1,564 972 1,067 1,235 57% 51% 42%

Pimpalgaon-Nashik-Gonde 16,910 5,073 1,319 734 807 914 631 692 783 192% 174% 156%

Chennai ORR 14,400 1,630 815 NA NA 1,200 NA NA 1,056 NA NA 100%

Total 91,290 20,431 13,826 4,044 6,048 8,695 3,271 4,846 7,146 165% 130% 103%


-

2,000

4,000

6,000

8,000

10,000

12,000

14,000

FY14 FY15E FY16E FY17E FY18E FY19E

(` mn) Revenue (BOT Assets)

87%

173%

127%107%

83% 72%

0%

40%

80%

120%

160%

200%

-

2,000

4,000

6,000

8,000

10,000

12,000

FY1

4

FY1

5E

FY1

6E

FY1

7E

FY1

8E

FY1

9E

(` mn)

EBITDA Interest/EBITDA (RHS)

Ashoka Buildcon


Change in assumptions We marginally increase our FY16 and FY17 construction revenue estimates, as we expect order inflows to pick up and drive EPC revenues for the company. We reduce our toll revenue estimates, owing to lower-than-expected revenue growth in Sambhalpur and lower toll revision owing to a muted WPI increase.

Exhibit 16: Change in estimates ` mn unless mentioned

Earlier Revised Change (%) Comments

FY16 FY17 FY16 FY17 FY16 FY17

ABL Standalone revenues 18,584 22,119 18,771 22,572 1.0% 2.0%

Construction business 17,268 20,898 17,454 21,179 1.1% 1.3% Marginal increase in construction revenue estimate owing to increasing visibility of order inflows

BOT 363 411 363 411 0.0% 0.0%

Others 954 982 954 982 0.0% 0.0%

EBITDA 2,268 2,804 2,269 2,726 0.0% -2.8% We marginally reduce EBITDA margin estimates with rising contribution of lower margin power T&D revenue EBITDA margin 12.2% 12.3% 12.1% 12.1% (12) (23)

PBT 1,869 1,869 2,000 2,337 7.0% 25.0% Increase in FY16 and FY17 PAT estimate is owing to lower depreciation in-line with the new Companies Act

PAT 1,280 1,280 1,370 1,577 7.0% 23.2% Change in PAT is in-line with change in PBT

BOT assets- ACL

Revenue 4,202 5,408 4,042 5,988 -3.8% 10.7% Reduction in BOT revenue is on account lower than expected revenue in projects such as Sambhalpur

EBITDA 3,384 4,534 3,212 4,924 -5.1% 8.6% Lower revenue leading to adverse EBITDA margin impact

EBITDA margin 82% 84% 79% 82% (275) (161)

Source: Ambit Capital research, Company

Ashoka Buildcon


Valuation – Significant room for re-rating We value the construction business using DCF valuation methodology, and we calculate the net asset value (NAV) of each BOT asset of the company. We highlight that unlike the large infrastructure developers, whose BOT assets should be valued at a P/B multiple, for a mid-sized developer, NAV is more relevant because it specifically captures the value contributed/risk associated with each asset. Our SOTP-based valuation is `234/share (`113/share for the construction business, implying 12x FY16 EPS; `19/share for ABL’s assets; and `102/share for ABL’s stake in ACL implying 1.9x equity invested).

Exhibit 17: SOTP-based valuation of Ashoka Buildcon

Business Equity value (̀ mn)

ABL share Equity value

ABL share (̀ mn)

` per share

P/B FY15

P/B FY16

P/E FY15

P/E FY16

FY15 equity invested

FY16 equity invested

EPC business 17,996 100% 17,996 113 2.1 1.9 16.5 13.0 8,539 9,328

ABL individual Assets 2,965 100% 2,965 19 ABL share in ACL assets 26,773 61% 16,330 102 2.1 1.9 12,826 13,826

Final SOTP Value 47,615 37,287 234 3.2 3.3 Source: Company, Ambit Capital research

Construction business – (`113/share)

We use DCF for the construction business, as it captures the key drivers of free cash flow, based on revenue growth, profitability, working capital turnover and a discount rate apt for the risks inherent in the industry (we use a high WACC of 16%, given the cyclical nature of the construction business).

Our DCF-based valuation drivers/determinants are as follows:

Near-term and long-term estimates: We build in a moderate revenue growth of 13% in FY16, as the company would largely execute its current order book in roads and power T&D. However, we expect the company to significantly increase its order book in the next few months, as NHAI’s order awarding activity picks pace. We estimate a highly achievable standalone revenue/EBITDA CAGR of 17%/15% over FY15-18E. Thereon, we build in tapering growth rates with 9%/8% revenue/EBITDA CAGR over FY18-26E. We build in related capex to achieve the revenue growth and also increase in working capital days with rising power T&D execution. Our DCF-based valuation of `113/share implies a reasonable 13x FY16 EPS.

Exhibit 18: PV of FCFF


Exhibit 19: DCF-based valuation of `113/share

Particulars ̀ mn

PV of the forecasting period up to FY26E 11,188

Terminal value 6,975

Enterprise value 18,164

Less: net debt at March 2016 168

Implied equity value 17,996

Implied equity value (̀ per share) 113


0%

4%

8%

12%

16%

20%

-

350

700

1,050

1,400

1,750

FY17

E

FY18

E

FY19

E

FY20

E

FY21

E

FY22

E

FY23

E

FY24

E

FY25

E

FY26

E

PV of FCFF (Rsmn) RoCE (RHS) WACC (RHS)

Ashoka Buildcon


Exhibit 20: Sensitivity of valuation to key variables

Terminal growth rate

WA

CC

113 2.0% 3.0% 4.0% 5.0% 6.0%

14% 127 132 138 146 155

15% 115 119 124 130 137

16% 106 109 113 117 123

17% 98 100 103 107 111

18% 90 93 95 98 101


ABL’s BOT assets portfolio - `19/share

ABL has a portfolio of six BOT projects (annual revenue of `2.5bn), with an average remaining concession period of three years. We aggregate these projects and arrive at a NAV value of `19/share. We expect revenues to increase at 13% YoY for each project (during the remaining concession period) and model an EBITDA margin of ~85%.

ACL valuation - `102/share

ACL’s asset portfolio accounts for 90% of Ashoka Buildcon’s asset portfolio (measured on project cost) and ~85% of the portfolio (7/8 assets) will be operational by mid-FY16. We calculate the net asset value of the operational and under-construction road assets based on our traffic and toll estimates over the entire concession period.

Key assumption for ACL’s road projects

Traffic growth: After a 2-4% traffic decline across most of ACL’s roads in FY14, traffic has improved marginally in FY15 (up 4-5%) but is still lower than its peers’ growth rates owing to the mining ban in central-east India states. We build in 7%/8% traffic growth in FY16/FY17 for most assets, barring Sambhalpur, wherein we expect a significant improvement as iron ore mining picks up. We gradually reduce traffic growth over the concession period to 3-4%.

Toll rate assumption: We build in a moderate 1% toll rate increase given the muted increase in India’s WPI in FY15. In FY16 and FY17, we build in a toll rate increase of 4-5%.

Extension due to traffic shortfall: We build in concession period extension of 5 years in Dhankuni Kharagpur and 6 years each in Belgaum-Dharwad and Sambalpur-Baragarh. The company has a traffic shortfall clause embedded in the three above-mentioned projects, under which the company would get a concession extension if the actual traffic falls short of the target traffic. Our calculations suggest that Ashoka’s actual traffic would be significantly lower than the target traffic and hence the company would be entitled to a maximum concession extension i.e. 20% of the concession period.

Exhibit 21: ACL’s NAV valuation of BOT assets

` mn unless mentioned Project Cost Equity Commitment Equity value ACL

share ACL/ABL

stake (̀ mn) Per share (̀ .)/

ABL Share Equity

IRR

ACL NH-6 Bhandara Road 5,350 1,445 2,589 51% 1,320 5 5% NH-6 Durg Bypass, Chhattisgarh -Maharashtra Border Road 5,870 1,867 3,205 51% 1,635 7 10%

Jaora-Nayagaon Road 8,350 2,967 8,343 37% 3,087 12 10%

Belgaum-Dharwad 6,940 2,150 3,491 100% 3,491 14 14%

Sambhalpur-Baraghar 11,420 3,322 3,117 100% 3,117 12 15%

NH-6 Dhankuni to Kharagpur Section 22,050 4,592 13,037 100% 13,037 52 17%

NH-3 Pimpalgaon-Nashik-Gonde road 16,910 5,073 (2,072) 26% (539) (2) -5%

Chennai ORR 14,400 1,630 3,248 50% 1,624 6 24%

ACL total 76,890 21,416 31,711 26,773 107 Source: Company, Ambit Capital research

Ashoka Buildcon


Exhibit 22: Post the recent re-rating Ashoka is trading at a significant premium to historical averages


Exhibit 23: Ashoka is trading at a discount to Sadbhav


Listing of ACL would unlock value ABL could list ACL for: (1) valuation discovery and further growth capital: A separate asset operator’s valuation is higher than an EPC-and-developer given that investors can choose not to stay invested in the construction business which is cyclical and working-capital-intensive; and (2) potential exit to SBIM: SBIM has infused `7bn in ACL at a committed equity IRR of 12% and could be seeking an exit in FY19. Primary equity issuance at ACL will provide it more growth capital for building an even larger road asset portfolio, in which the competitive advantage is strengthened with scale/operational assets. Alongside, SBIM could amplify the portfolio by bringing in its secondary assets that were acquired over the last few years. As the Dhankuni construction is completed in the next six months, nearly all of ACL’s invested equity (pending `1.1bn) will generate strong cash flows. The exhibit below elucidates the upside in the base, optimistic and highly optimistic scenarios (keeping the other two valuation components, the construction business and ABL BOT) constant.

Whilst the base case broadly implies our NAV-based valuation, at a highly achievable 2.5x multiple, the upside is 55%.

Although 3.0x (highly optimistic case) is rich for an asset portfolio with an equity IRR of 17%, we believe investors pay the premium given lack of investable and credible names in the infrastructure sector. Under this scenario, the potential upside is 70%.

Exhibit 24: ABL valuation under different scenarios Ashoka Buildcon (̀ mn unless mentioned) Metric used Base case Optimistic case Highly optimistic case


ABL-construction business FY16 PAT 1,370.0 13 18,041 13.0 18,041 13.0 18,041

ABL-BOT portfolio NAV 2,972 2,972 2,972

ACL-BOT portfolio FY16 Equity invested 8,434 2.0 16,398 2.5 20,498 3.0 24,597

Total Value 37,411 41,511 45,610

Current Mcap 26,850 26,850 26,850

% upside 39.0% 54.5% 69.8%


-

0.5

1.0

1.5

2.0

2.5

Nov

-10

Mar

-11

Jul-

11

Nov

-11

Mar

-12

Jul-

12

Nov

-12

Mar

-13

Jul-

13

Nov

-13

Mar

-14

Jul-

14

Nov

-14

Mar

-15

(X)

Ashoka 1 yr. fwd. PB (RHS) (x)

Avg. 1 yr fwd. PB (RHS)

-

0.5

1.0

1.5

2.0

2.5

3.0

Oct

-10

Feb-

11

Jun-

11

Oct

-11

Feb-

12

Jun-

12

Oct

-12

Feb-

13

Jun-

13

Oct

-13

Feb-

14

Jun-

14

Oct

-14

Feb-

15

(X) One-yr fwd P/B

Ashoka Sadbhav

Ashoka Buildcon


Key catalysts Order inflows: Ashoka’s order book has depleted with near completion of large captive BOT contracts. With NHAI order awards likely to increase significantly, a strong developer like Ashoka is well placed to win orders. Rising EPC order inflows would lift a key investor overhang on the company.

Resumption of the mining ban: Four of Ashoka’s seven road assets lie on the NH-6, which is highly dependent on the mining traffic in east Indian states. The mining ban has led to a sharp reduction in traffic on this route and a quick resolution would improve traffic and the NAV of the project.

Financial re-engineering and interest rate resets: The RBI’s 5/25 funding mechanism would provide long-term financing for road projects and back-end debt payments, which improves NAV and equity IRR. Refinancing would not only lower interest rates but also extend repayment terms of the projects. Exemption from CRR/SLR requirements would bring down the cost of capital for banks and hence they could pass it on as lower interest costs to infrastructure companies. Ashoka recently reset the interest rates for two of its projects by 50bps and if it were to further reduce interest rates, that would further add to NAV.

Premium rescheduling: The Government has rescheduled the premium for 11 road projects in the last 9 months, which would help bridge the equity-deficit constraints that several developers are facing. One of Ashoka’s projects (Bhandara) achieved premium rescheduling recently. Ashoka’s management expects premium rescheduling in two other contracts, which would help the company generate excess cash flows of `3bn over the next three years.

Key risks Muted toll increase: Whilst a 5-6% toll increase is usually a foregone assumption, the low WPI increase in FY15 would limit the toll increase to 2% at best for projects linked to WPI and 4% for projects wherein toll increase in 3%+40% of WPI.

Delay in resumption of the mining ban: A prolonged resumption of the mining ban would keep traffic at its key road assets muted and increase the cash losses of ACL’s portfolio.

Aggressive bidding: Limited competition in BOT roads suggests that the bidding would be less aggressive for NHAI orders. However, we hear that recently a few players have bid aggressively and if this continues Ashoka would face difficulties in winning orders.

Exhibit 25: Explanation for our flags Segment Score Comments

Accounting GREEN Based on our accounting analysis of Ashoka, IRB and Sadbhav, we believe that Ashoka’s quality of accounts is better than its peers with better cash conversion and cash management.

Predictability GREEN Ashoka has made timely announcements of project wins and given regular updates on status of projects, project-wise cash flows, etc.

Earnings Momentum AMBER Consensus earnings estimates have been downgraded by 8% in the last month.


Ashoka Buildcon


Balance sheet (consolidated)


Share capital 526 790 790 790 790

Reserves and surplus 9,832 11,690 15,464 15,417 15,459

Total Net worth 10,358 12,479 16,254 16,207 16,248

Share Application money 149 149 149 149 149

Minority interest 2,787 4,645 3,464 2,563 1,733

Loans 24,534 31,940 46,707 52,032 54,760

Sources of funds 37,821 49,193 66,554 70,929 72,870

Gross Block 20,275 46,718 59,768 59,719 57,989

Net block 15,000 40,250 55,273 53,795 49,771

Capital work-in-progress 96,100 79,621 241 5,079 10,609

Investments 2,824 2,846 3,651 3,933 4,245

Inventories 5,399 6,272 4,774 5,425 6,525

Sundry debtors 862 1,305 2,508 2,828 3,401

Cash and bank balances 517 945 3,357 3,613 3,709

Loans and advances 2,893 3,087 3,132 3,132 3,132 Current Assets, Loans & Advances 10,456 12,444 13,738 15,082 17,058

Current Liabilities 6,877 8,215 12,592 13,877 16,276

Provisions 1,370 1,508 879 879 879 Current liabilities and provisions 8,247 9,722 13,471 14,756 17,155

Net current assets 2,209 2,721 267 326 (97)

Application of funds 37,821 49,192 66,554 70,929 72,870


Income Statement (consolidated)


Revenue 18,527 17,949 18,714 24,231 28,849

% growth 23.5% -3.1% 4.3% 29.5% 19.1%

Total expenses 14,808 14,003 15,021 17,332 20,910

Adjusted EBITDA 3,719 3,945 3,693 6,899 7,940

Adjusted EBITDA margin 20.1% 22.0% 19.7% 28.5% 27.5%

Net depreciation / amortisation 1,324 1,389 1,293 1,429 2,294

EBIT Reported 2,395 2,556 2,401 5,471 5,646

Net interest 1,395 1,335 3,879 4,820 5,914

Other income 294 173 175 474 419

Adjusted PBT 1,294 1,394 (1,304) 1,125 151

Reported PBT 1,138 1,237 (1,304) 1,125 151

Provision for taxation 685 688 486 630 759

Adjusted PAT 609 706 (1,790) 495 (609)

PAT margin 3.3% 3.9% -9.6% 2.0% -2.1%

Reported PAT 999 1,131 (400) 1,597 714

Adjusted EPS (diluted) ` 6.3 7.1 (2.5) 10.0 4.5


Ashoka Buildcon


Cash flow statement(consolidated)


EBIT 2,395 2,556 2,401 5,471 5,646

Depreciation 1,324 1,389 1,293 1,429 2,294

Others 752 653 208 201 493

Direct taxes paid (702) (702) - - -

Change in working capital 61,230 (38) 4,672 313 727

CFO 64,999 3,858 8,573 7,414 9,160

Purchase of fixed assets (69,694) (10,802) (2,949) 850 3,168

Investments (772) (23) (805) (282) (312)

Others (274) 1,605 - - -

CFI (70,740) (9,220) (3,754) 568 2,856

Proceeds from borrowings 7,466 7,391 14,767 5,324 2,729

Equity raised - - - - -

Interest and finance charges paid (1,395) (1,335) (3,705) (4,346) (5,495)

Others (250) (266) - - -

CFF 5,758 5,790 11,062 978 (2,767)

Net change inflow/(outflow) 17 428 15,882 8,960 9,249

Cash at the beginning 500 517 945 3,357 3,613

Cash at the end 517 945 16,827 12,317 12,862

Free cash flow (5,467) (6,968) 4,820 7,982 12,016


Ratio analysis (consolidated) Performance ratios FY13 FY14 FY15E FY16E FY17E

Growth (YoY) Sales 24% -3% 4% 29% 19%

EBITDA 14% 6% -6% 87% 15%

Adj. PBT -20% 8% -194% -186% -87%

Adj PAT -47% 16% 5% 27% 15%

EBITDA Margin (%) 20% 22% 20% 28% 28%

EBIT Margin (%) 14% 13% 23% 20% 20%

Net margin 7.8% -7.0% 4.6% 0.5% 3.5%

Debt:Equity 2.4 2.6 2.9 3.2 3.4

Net debt/Equity 2.3 2.5 2.7 3.0 3.1

Gross block turnover (x) 0.90 0.54 0.35 0.41 0.49

ROCE 8% 6% 4% 8% 8%

ROE 5% 5% -10% 3% -3%


Valuation parameters (consolidated)

Valuation metrics FY13E FY14E FY15E FY16E FY17E

Adjusted EPS basic (`) 6 7 (3) 10 4

Adjusted EPS diluted (`) 22 6 (3) 10 4

BVPS 66 79 103 103 103

P/E 27.2 24.0 (67.8) 17.0 38.0

P/B 2.6 2.2 2.0 1.7 1.7

EV/EBITDA 3.1 10.1 14.2 8.3 7.6


Ashoka Buildcon


Institutional Equities Team Saurabh Mukherjea, CFA CEO, Institutional Equities (022) 30433174 [email protected]

Research

Analysts Industry Sectors Desk-Phone E-mail

Nitin Bhasin - Head of Research E&C / Infra / Cement / Industrials (022) 30433241 [email protected]

Aadesh Mehta, CFA Banking / Financial Services (022) 30433239 [email protected]

Achint Bhagat Cement / Infrastructure (022) 30433178 [email protected]

Aditya Bagul Consumer (022) 30433264 [email protected]

Aditya Khemka Healthcare (022) 30433272 [email protected]

Ashvin Shetty, CFA Automobile (022) 30433285 [email protected]

Bhargav Buddhadev Power Utilities / Capital Goods (022) 30433252 [email protected]

Deepesh Agarwal Power Utilities / Capital Goods (022) 30433275 [email protected] Gaurav Mehta, CFA Strategy / Derivatives Research (022) 30433255 [email protected]

Karan Khanna Strategy (022) 30433251 [email protected]

Krishnan ASV Real Estate (022) 30433205 [email protected]

Pankaj Agarwal, CFA Banking / Financial Services (022) 30433206 [email protected]

Paresh Dave, CFA Healthcare (022) 30433212 [email protected]

Parita Ashar Metals & Mining / Oil & Gas (022) 30433223 [email protected]

Prashant Mittal, CFA Derivatives (022) 30433218 [email protected]

Rakshit Ranjan, CFA Consumer / Retail (022) 30433201 [email protected]

Ravi Singh Banking / Financial Services (022) 30433181 [email protected]

Ritesh Gupta, CFA Midcaps – Chemical / Retail (022) 30433242 [email protected]

Ritesh Vaidya Consumer (022) 30433246 [email protected] Ritika Mankar Mukherjee, CFA Economy / Strategy (022) 30433175 [email protected]

Ritu Modi Automobile (022) 30433292 [email protected]

Sagar Rastogi Technology (022) 30433291 [email protected]

Sumit Shekhar Economy / Strategy (022) 30433229 [email protected]

Sandeep Gupta Media / Midcaps (022) 30433211 [email protected]

Tanuj Mukhija, CFA E&C / Infra / Industrials (022) 30433203 [email protected]

Utsav Mehta, CFA Technology (022) 30433209 [email protected]

Sales

Name Regions Desk-Phone E-mail

Sarojini Ramachandran - Head of Sales UK +44 (0) 20 7614 8374 [email protected]

Dharmen Shah India / Asia (022) 30433289 [email protected]

Dipti Mehta India / USA (022) 30433053 [email protected]

Hitakshi Mehra India (022) 30433204 [email protected]

Krishnan V India / Asia (022) 30433295 [email protected]

Nityam Shah, CFA USA / Europe (022) 30433259 [email protected]

Parees Purohit, CFA UK / USA (022) 30433169 [email protected]

Praveena Pattabiraman India / Asia (022) 30433268 [email protected]

Shaleen Silori India (022) 30433256 [email protected]

USA / Canada

Ravilochan Pola - CEO Americas +1(646) 361 3107 [email protected]

Production

Sajid Merchant Production (022) 30433247 [email protected]

Sharoz G Hussain Production (022) 30433183 [email protected]

Joel Pereira Editor (022) 30433284 [email protected]

Nikhil Pillai Database (022) 30433265 [email protected]

E&C = Engineering & Construction

Ashoka Buildcon


Ashoka Buildcon (ASBL IN, BUY) - Stock price performance


Sadbhav Engineering (SADE IN, BUY) - Stock price performance


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Ashoka Buildcon


Explanation of Investment Rating

Investment Rating Expected return (over 12-month)

BUY >10%

SELL <10%

NO STANCE We have forward looking estimates for the stock but we refrain from assigning valuation and recommendation

UNDER REVIEW We will revisit our recommendation, valuation and estimates on the stock following recent events

NOT RATED We do not have any forward looking estimates, valuation or recommendation for the stock

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