India Infrastructure
Vishal Sharma
(91 22) 6628 2441 Industrials/Construction 10 February 2009
S O W H A T ? T H E B N P P A R I B A S A N G L E I N D U S T R Y O U T L O O K : 􀃍 􀃎
􀂄 Proprietary risk analysis of
order book composition
justifies L&T downgrade; top
picks: IVRC and NJCC.
􀂄 We are estimating a steeper
decline in order intake than
the Street.
􀂄 We estimate higher
execution delays, more
margin pressure than Street.
Stock Picks
BBG Share Target Upside/ Market ——— Rec P/E ———
Company code Rec price price (Downside) cap 2008 2009E 2010E
(INR) (INR) (%) (USD m) (x) (x) (x)
Larsen & Toubro LT IN REDUCE 638.90 536.00 (16) 7,539 15.3 16.5 15.0
Hindustan Construction HCC IN HOLD 42.30 42.00 (1) 223 12.7 10.9 9.3
IVRCL Infrastructure IVRC IN BUY 105.95 146.00 38 288 7.2 6.6 5.5
Nagarjuna Construction NJCC IN BUY 46.35 65.00 40 210 5.9 6.2 5.9
Source: BNP Paribas estimates
• We downgrade our sector outlook to NEUTRAL on weak orders and margin pressure.
• Companies exposed to private capex are expected to suffer the most; international orders offer no support.
• Recommend REDUCE call on L&T; HOLD on HCC; and a BUY on IVRC, and NJCC.
More pain in the end markets
Downgrading sector to NEUTRAL
We believe the next two quarters will be very challenging for engineering
and construction companies for several reasons:
􀂃 New orders are likely to decline from private, government and
international sources because of the current economic slowdown
and the timing of general elections;
􀂃 Existing orders in certain end markets should witness execution
slowdown and possible renegotiation of contracts;
􀂃 Margin pressures should increase due to increased competition for a
lower base of orders;
􀂃 High debt levels are unlikely to decrease; interest expense will
remain high.
BUY IVRC, NJCC, SELL L&T on proprietary risk scores
IVRCL and NJCC score highest on our proprietary risk analysis of order
books. Recent price corrections (~30%) have been overdone in these
names. Although Hindustan Construction Co (HCC) also has less
exposure to private capex, execution of its projects is likely to be
delayed because of the nature of projects. Companies such as Larsen
and Toubro (L&T) will bear the brunt of the slowdown because of its
relatively high dependence on private capex. Hence, we recommend
REDUCE on LT. Our L&T TP implies a further 16% downside.
When will we turn positive?
While the private capex may not revive in CY09, the government orders
should witness an increase following the general elections. The
government has already announced measures to boost infrastructure
spending and is likely to arrange viability gap funding for INR10t worth of
projects. We believe this will benefit the sector but with a lag. The road
and port sector, where the awarding activity is already in process,
should witness the quickest revival. A pickup in order activity and ticket
size in the next two-three quarters will make us – in due course –
positive on the sector.

IVRCL & NJCC are top picks based on our proprietary-risk analysis
We are very likely to witness delays in execution of existing orders in certain industries
such as metals and minerals, cement, real estate and petrochemicals. Renegotiation
of existing contracts is also possible on account of lower raw material prices. Again,
L&T (in our coverage) is one of the most exposed to these industries – over 40% of its
order book. These industries are facing pricing and demand contraction and are
unlikely to revive in the near future.
Exhibit 1: Proprietary Risk Scores Based On Exposure Of Order Book To Infrastructure Sub-
Sectors
—————— Order book exposure ——————
Sub-sector Risk profile L&T NJCC IVRC HCC
(%) (%) (%) (%)
Oil & gas + petrochem
Upstream High
Midstream High
Downstream High
17 9 0
Process plants
Refineries High
Cement High
Metals High
Petrochemicals High
16 9 0
Infrastructure
Transportation Medium 9 5 19
Urban infrastructure Medium
39
Real estate
Residential High
Commercial High
24 20
Power
Thermal power Low
Hydro power Low
Nuclear power Low
Balance of plant Low
Equipment Low
Transmission & distribution Low
18 1 5 39
Water & irrigation Low 23 70 40
Others na 10 25 0 2
Total 100 100 100 100
Risk score * 225 243 145 123
* On a scale of 100 - 300, 300 being the riskiest
Source: BNP Paribas estimates
Calculation of risk scores: Weighting of sectors is on a scale of 1-3, with low risk being
assigned a weight of one and high risk assigned a weight of three. The maximum
score possible is 300, which implies that the complete order book is exposed to high
risk sectors (100% x 3 = 300).
P/E re-rating not likely based on sector earnings growth estimates
Our analysis of P/E multiples since 2002 indicates that the average P/E was 16.5x
(13x Median) for the sector. The range varies from 5x to 58x, with a deviation of 10x.