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HCC: Rising interest costs dent profits
Jul 29, 2011

Hindustan Construction Company (HCC) has announced first quarter results of financial year 2011-2012 (1QFY12). The company has reported 6.3% YoY growth in sales. However, net profits declined by 89.9% YoY during the quarter. Here is our analysis of the results.

Performance summary
  • Top line registered a growth of 6.3% YoY during 1QFY12.
  • Operating profits increase 9.7% YoY in 1QFY12 due to healthy top-line growth and modest rise in operating expenses.
  • Net profits decline 89.9% YoY in 1QFY12 due to increase in interest and depreciation expenses.
  • Order book at the end of the quarter stood at Rs 170 bn, excluding L1 orders to the extent of Rs 20.7 bn.
  • Total order inflows during the quarter were in the region of Rs 10.0 bn.
  • HCC Infrastructure is expected to raise Rs 2.4 bn by diluting 14.5% of its stake in HCC Concessions (a wholly owned subsidiary) to Xander Group, a global investment firm focused on infrastructure and real estate sectors. This transaction effectively values HCC Concessions at Rs 16.5 bn.

Standalone financial snapshot
(Rs m) 1QFY11 1QFY12 Change
Income from operations 9,954 10,579 6.3%
Expenditure 8,696 9,200 5.8%
Operating profit (EBDITA) 1,258 1,379 9.7%
Operating profit margin (%) 12.6% 13.0%  
Other income 31 7 -76.5%
Interest 577 933 61.5%
Depreciation 347 392 13.1%
Profit before tax 364 62 -83.1%
Tax 81 33 -59.5%
Profit after tax/(loss) 283 29 -89.9%
Net profit margin (%) 2.8% 0.3%  
No. of shares (m)   607  
Basic earnings per share (Rs)   0.05  
P/E ratio (x) *   43  
* On a trailing 12-months basis

What has driven performance in 1QFY12?
  • HCC's top line increased 6.3% YoY during 1QFY12. The revenue growth was muted on account of slowdown in execution pace and heavy monsoons.

  • Operating margins increased to 13.0% in 1QFY12 due to decline in raw material expenses as a percentage of revenues. Raw material expenses as a percentage of revenues declined to 27.3% in 1QFY12 from 29.8% in 1QFY11.

  • The net profits of the company declined 89.9% YoY due to increase in interest and depreciation expenses. Interest expenses increased due to stretched working capital cycle. Even the tax rates increased from 22.3% in 1QFY11 to 53.3% in 1QFY12 impacting margins for the quarter.

What to expect?
Environmental issues and land acquisition delays have been impacting the execution cycle of the company. Further, increase in commodity prices and hardening interest rates have pressurized margins. Going forward, if the commodity prices continue to rise, margins could be at risk (over the next six months) as first half is a seasonally weak period for construction companies. Rising debt levels due to stretched working capital cycle is also affecting the profitability growth. However, it may be noted that this a structural problem across the industry right now.

As far as the BOT business is concerned, the company finally managed to raise equity by diluting its stake in a subsidiary company. With respect to Lavasa, it may be noted that the Expert Appraisal Committee (EAC) decided to give a clearance to the project on acceptance of certain pre-conditions. However, the company has denied accepting any conditions and the matter is adjourned till 29th July 2011.

Despite concerns pertaining to the core construction business in general and Lavasa in particular we believe that the stock offers reasonable margin of safety for investors at current levels. As a result we maintain our positive view on the stock.

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