Teena Virmani  teena.virmani@kotak.com  +91 22 6621 6302

Margins likely to be sustained at current levels. Operating margins of the company stood around 13.6% in FY10 and company expects to improve margins by 0.5% going forward due to its focus towards high margin segment of water supply and irrigation as well as backward integration. We thus expect company's operating margins to be around 13.5% for FY11 and 14% for FY12.

Backward integration aids better margins. Saw pipe manufacturing division of company provides backward integration for water and oil&gas pipeline projects and has a capacity of 92,000 TPA. Company is planning to enhance its focus in the hydro carbon segment going forward and thus the saw pipe division will cater to the huge demand of pipes for inhouse projects and will also enable the company to meet pre-qualification criteria for upcoming tenders.

Joint ventures with international players to bag larger sized projects. Pratibha industries has gained technical expertise for executing large and complex projects by entering into joint ventures or alliances with international or domestic players. This had enabled the company to achieve necessary prequalifications for bidding for complex projects. We believe that company will continue to enter into JV's to bag bigger as well as complex projects.

BOT segment to add further value to order book. Company has also ventured into BOT segment in road - toll and annuity as well as multi-level car parking. Post completion of construction of these BOT projects, company would achieve desired expertise to bid for large sized projects on its own. It would continue to enhance its presence across PPP projects especially in the road segment.

Healthy balance sheet. Company has been able to enhance its networth in past few years with IPO as well as QIP issue along with ploughing back of the profits. Funds raised through QIP will be deployed to reduce high cost borrowings, meet capex and working capital requirements of the company going forward. We thus expect leverage for the company to come down going forward post this fund raising. Company also has excellent return ratios with ROE expected to be around 19.9% and 20% for FY11 and FY12 and ROCE expected to be around 21.6% and 23.0% for FY11 and FY12 respectively.

Future growth strategy. Pratibha Industries will continue to focus on increasing the order book across diverse segments. Company has identified new growth areas such as hydro carbon as well as power projects and would continue to tap opportunities in this space. It would also continue to expand its presence across geographies as well as segments to maintain a hedged business model going forward

Attractive valuations. At current price of Rs.74, stock is trading at 9.8x and 6.9x P/E and 5.4x and 4.4x EV/EBITDA multiples for FY11 and FY12 respectively. We value the company at 9x FY12 estimated earnings and add value of BOT investments and arrive at a target price of Rs.101 on FY12 estimates. Our target valuations are based on 30% discount to the core business valuations of larger and diversified players to factor in relatively smaller size. We thus recommend BUY on the stock.

Slowdown in order inflows - Any kind of slowdown in order inflows is likely to impact order book growth as well as revenue growth for the company going forward.

Delays in execution - Execution delays related to land acquisition as well as environmental clearance may impact project completion schedule and thereby impact revenue growth.

Increase in interest rates - Increase in interest rates may result in increasing the overall borrowing cost for the company and hence may impact profitability adversely.

Pratibha Industries, established in 1982 by Mr Ajit B Kulkarni, as a manufacturing company for pre-cast products, has now diversified into one of the leading players in infrastructure sector. Company is an established player in water supply, water treatment and water distribution related projects and has also enhanced its presence across urban infrastructure as well as road segment. It also proposes to have a strong presence in road, urban, oil and gas transmission and power segment, apart from water supply segment going forward. Company’s pipe division Pratibha Pipes and Structural Ltd also provides backward integration for water and oil and gas related projects. With its diversified order book of Rs.36 bn and geographical presence across regions, we expect company to be a key beneficiary of upcoming projects in water supply and urban infrastructure and maintain a high growth trajectory going forward.

 Infrastructure – Company has an order book of Rs.36 bn in the infrastructure segment, diversified across water and irrigation (60%) and urban infrastructure (40%). Surface transportation forms a very small portion of the order book. In the water segment, company has executed a range of projects such as laying of water pipelines, sewerage treatment plant, water reservoirs, water storage systems, tunnelling etc. Though water segment contributes a significant proportion of the order book, company had also ventured into new segments such as building and modernisation of airports, construction of high rises and shopping malls as well as BOT/BOOT projects. Going forward, company plans to capture the upcoming opportunities in thermal and hydro power as well as oil and gas transmission. Key projects executed by company in the infrastructure segment include –

Water supply - NMMC Pipeline project, Sarita Vihar Water Supply project, Barve Ambernath Pipeline project, Indore water supply and Gujarat water supply project

Urban infra - Mumbai, Delhi and Amritsar airport, Airoli and Ghansoli Railway station, Nirmal Lifestyle mall, Lanco mall, Imperial Height building at Andheri,

Surface transport - Pune Solapur Highway road, Sangamwadi bridge, Katraj road and bibewadi to Kondhwa Road etc

Saw pipes – The saw pipe division of the company has an installed capacity of 92000 TPA which caters to requirements from water and oil and gas related projects. The pipe division also has a crucial coating division viz 3 LP coating plant having capacity of 1.7 mn sq meters per annum. This division operated at nearly 47% capacity utilization in FY10 and produced 42470 TPA, out of which 55% were being used for internal consumption and remaining is supplied for outside orders. Current output capacity is approximately 60000 TPA. The company has also obtained various certification including prestigious American Petroleum Institute (API) certifications for its manufacturing facilities which enables it to meet qualification criteria of various upcoming projects. For Saw Pipes division, company had also secured contract from GAIL for supply of API Grade Pipes for its Bawana Nangal pipeline project.

Irrigation - Planned investments under XI th five year plan for irrigation is expected to be Rs 2.53 trillion. These investments represent a growth of 182 per cent as against previous five year plan and will be primarily led by states focusing on improving water and irrigation infrastructure such as AP, Maharashtra, Gujarat, MP, Orissa, Rajasthan and Karnataka. Progress of projects in AP in FY10 slowed down considerably due to lack of funding as well as issues related to separate state of Telangana. These projects are likely to pick up pace going forward.

Urban infrastructure - Urban infrastructure projects would comprise of a range of projects from water supply and sanitation, urban transport, MRTS, bus rapid transport system, parking lots etc. Under JNNURM, investments worth Rs 1.2 trillion have been planned over FY05-FY12. These investments would be spread across tier 1, tier 2 and tier 3 cities. Along with this, large opportunities are likely to come from upcoming projects in airport and railways segment. Under XIth five year plan, Rs 300 bn is likely to be invested for modernization of 4 metro airports, 35 non-metro airports as well as setting up of green field airports. In railways segment, a large number of projects in setting up of new rail facilities, gauge conversion, dedicated freight corridors, modernization of stations as well as MRTS are likely to be announced and total investment is estimated to be Rs 2.6 trillion.

Transportation - NHAI has targeted to award road projects for 37,050 km over next three-four years in order to achieve the target of constructing 20 km per day. Since progress in FY10 had been below par, NHAI reduced the target for FY11 to 9000 km from earlier estimated target of 11092 km. This pace of 9000 km is likely to be maintained for next 2-3 years. Since Pratibha Industries is largely focussed in these segments, we expect it to benefit from the planned investments in these segments.

Leading player in the infrastructure segment - Pratibha Industries has emerged as one of the leading players in the infrastructure segment in past 28 years with its focus towards a wide range of projects in water supply, surface transport, urban infra as well as BOT projects. Company has successfully executed a wide range of projects such as pipeline, water supply, bridges, flyovers, tunnels, high rise structures and shopping malls, construction of airport and railway stations. Thus we believe that Pratibha Industries has the required expertise to tap upcoming opportunities in the infrastructure segment going forward.

Healthy order book provides revenue visibility for next 2 years - Company has an order book of Rs.36 bn diversified across water and irrigation (60%) and urban infrastructure (40%). Surface transportation form a very small portion of the order book. It is also lowest bidder in Rs.9 bn worth of new projects which are likely to be awarded in this financial year. It has been able to grow its order book at a CAGR of 35% between FY08-FY10 and with strong order pipeline, we expect order book to grow at a CAGR of 26% between FY10-FY12. Company will continue to remain focused on water supply but will also simultaneously diversify into other segments such power, hydro carbon etc going forward.

Strong order pipeline - Pratibha industries places bids worth Rs 25 bn every month. Company is currently L1 in Rs 9 bn worth of orders - Rs 6 bn from Middle East and Rs 3 bn from India. It is trying to tap upcoming opportunities in Middle East and has placed the bids in Oman, Abu Dhabi, Dubai electricity and water authority etc. It is currently L1 in project worth nearly Rs 3.6 bn from Al Ghafat reservoirs and in another project worth Rs 3.6 bn in water supply pipeline project. Along with this, Pratibha industries in consortium with Kakade Infrastructure and Malaysia-based Inai Kiara is also the lowest bidder in Rs 12 bn worth of BOT project for water transportation from MSRDC. This project would entail construction of waterway between Nariman Point to Versova in Mumbai and company would be required to run the catamarans for transporting passengers. Project would be awarded to the company after getting cabinet approvals and will be developed in four phases. As per initital estimates, company expects 30,000 passengers daily with an average toll rate of Rs 250. Along with this, the consortium will also get 40 acres of water development – out of which 4-5 acres will be required for the ferry services while remaining would be leased out for commercial and retail development.

Diversification in other geographies - Pratibha Industries initially started as a focused player in Maharashtra but has now diversified across different states in past few years. Out of the total order book, 58% comes from states like Bihar, Karnataka, MP, UP, New Delhi and Rajasthan while the rest is being contributed by Maharashtra. We expect company to continue to expand across geographies and maintain its order book growth.

Excellent growth trajectory -Company has been on a high growth trajectory since past few years and has managed to grow revenues at a CAGR of 34% and profits at a CAGR of 29% between FY08-FY10. With a robust order book and strong order pipeline, we expect revenues of the company to grow at a CAGR of 32% between FY10-FY12. Net profits are expected to grow at a CAGR of 39% between FY10-FY12 primarily led by excellent revenue growth and healthy operating margins.

Margins likely to be sustained at current levels - Operating margins of the company stood around 13.6% in FY10 and company expects to improve margins going forward due to its focus towards high margin segment of water supply and irrigation as well as backward integration. Urban infrastructure segment also entails good margins where company has in the past executed and completed projects in airport, tunnelling, high rise buildings segment. Water supply related projects have operating margins in the range of 16% while urban infra related projects have margins between 10-13%. Along with this, company also owns a large fleet of owned machinery and equipment such as tunnel boring machines, batching plants, concrete mixers, transit mixers, heavy mobile cranes, tower cranes, loaders, compressors, DG sets etc. This enables the company to complete projects on time and also achieve higher operating margins. Along with this, with completion of low margin road projects, company expects margins to improve by 0.5% going forward. We thus expect company’s operating margins to be around 13.5% for FY11 and 14% for FY12.

Backward integration also aids better margins -  Saw pipe manufacturing division of company provides backward integration for water and oil&gas pipeline projects and has a capacity of 92000 TPA. Company is planning to enhance its focus in the hydro carbon segment going forward and thus the saw pipe division will cater to the huge demand of pipes and thus will also enable the company to meet pre-qualification criteria for upcoming tenders. Saw pipe facility is currently operating at nearly 65% capacity utilization and we expect it to continue to operate at similar utilization levels going forward. We expect significant proportion of production to be used internally for its projects and thus it will help in maintaining better margins.

Reputed client base - Pratibha industries has a reputed client base and hence company doesn’t face significant delay in receiving payments. Also, out of the total order book, government contracts constitute 89% while remaining is from private sector. This helps in maintaining efficient working capital cycle in comparison with other industry peers.

Joint ventures with several players to bag larger sized projects -Pratibha industries has gained technical expertise for executing large and complex projects by entering into joint ventures or alliances with international or domestic players. This had enabled the company to achieve necessary pre-qualifications for bidding for complex projects in airport, tunnelling, road BOT projects and hydro power segment. Following below are the details of existing JV’s of the company –

Road Annuity project from NHAI -Pratibha Industries has bagged an annuity road project from NHAI in joint venture with Abhyudaya Housing and Construction Pvt Ltd. The project involves 2-laning with paved shoulders of Bhopal-Sanchi section of NH-86 of 53.77 km to be executed as BOT (Annuity) project under NHDP Phase III. Construction period is of two years and post completion of construction, payments shall be made through semi-annual annuities of Rs 129.5 mn for 13 years totalling Rs 3.37 bn. EPC is likely to be done by Abhyudaya Housing. Pratibha industries would be required to invest Rs.90-100 mn over next two years as equity investment in this project.

Road BOT toll project from MSRDC - Company has also bagged a BOT project for construction of bridges in Baramati City including maintenance of roads from MSRDC worth Rs 1 bn. The project involves construction of 2 bridges, along with maintenance of bridges as well as road length of 34 km within Baramati City. Company would also be given rights for commercial development of 8.4 hectares of land and toll collection at 5 entry points of Baramati City for a period of 19 years and 4 months. This project has commenced toll collection from 25th Oct, 2010 and company expects toll collection to be around Rs 1.5 lakh per day from this project.

Multi level car parking project -Pratibha Industries had last year secured a BOT project for multi-level parking with commercial development at New Delhi Railway Station cum Airport terminal of Airport Express Line from Delhi Metro Rail Corporation Ltd for a total cost of Rs 1.5 bn. Project involves construction of four levels of car parking and two levels of commercial space above the proposed station. This project had a construction period of 15 months and concession period of 30 years. Company would also get the right to collect parking charges and lease rentals during the concession period. First phase of four levels of car parking is expected to be ready by Feb, 2011 while second phase of building 0.225 mn sq ft of commercial development above railway station is expected to start by next year. Company expects average rentals to be around Rs 125-130 per sq ft per month post completion of the development. Thus in all these projects, total equity investments are expected to be nearly Rs 550 -600 mn and corresponding stake of Pratibha's equity investment would stand at nearly Rs 390 mn to be invested over next two years. We currently value this investment at P/BV of 1x since projects are in the initial stages and arrive at a value of Rs 4 per share for Pratibha Industries.

Healthy balance sheet - Company has been able to enhance its networth in past few years with IPO as well as QIP issue along with ploughing back of the profits. Funds raised through QIP will be deployed to reduce high cost debt as well as to meet equity requirements and working capital needs going forward. We thus expect leverage for the company to come down going forward. Company also has excellent return ratios with ROE expected to be around 19.9% and 20% for FY11 and FY12 and ROCE expected to be around 21.6% and 23.0% for FY11 and FY12 respectively.

Fund raising to boost networth -Company has raised funds through QIP by issuing 12.195 mn shares at a price of Rs 82 per share thereby raising Rs 1 bn. It has also approved a preferential allotment of equity shares and compulsorily convertible participatory preference shares amounting to approximately Rs. 500 mn to "Van Dyck" a subsidiary of "ChrysCapital V, LLC", upto Rs. 92 per equity share and CCPPS of face value upto Rs. 92/-. Thus total fund raising would stand at nearly Rs 1.5 bn which is likely to be utilized for core construction activities such as capex, retiring high cost debt as well as to meet working capital requirements. We believe that this fund raising has enhanced company's networth and hence would enable it to participate in larger ticket size orders.

Future growth strategy - Pratibha Industries will continue to focus on increasing the order book across diverse segments. Company has identified new growth areas such as hydro carbon as well as power projects and would continue to tap opportunities in this space. It would also continue to expand its presence across geographies as well as segment to maintain a hedged business model going forward.

Attractive valuations -At current price of Rs.74, stock is trading at 9.8x and 6.9 P/E and 5.4x and 4.4x EV/EBITDA multiples for FY11 and FY12 respectively. We value the company at 9x FY12 estimated earnings and add value of BOT investments and arrive at a target price of Rs.101 on FY12 estimates. Our target valuations are based on 30% discount to the core business valuations of larger and diversified players to factor in relatively smaller size. We thus recommend BUY on the stock.

Slowdown in order inflows – Any kind of slowdown in order inflows is likely to impact order book growth as well as revenue growth for the company going forward.

Delays in execution – Execution delays related to land acquisition as well as environmental clearance may impact project completion schedule and thereby impact revenue growth.

Increase in interest rates - Increase in interest rates may result in increasing the overall borrowing cost for the company and hence may impact profitability adversely.

Research Team

K. Kathirvelu
Production
k.kathirvelu@kotak.com
+91 22 6621 6311

Sanjeev Zarbade
Capital Goods, Engineering
sanjeev.zarbade@kotak.com
+91 22 6621 6305

Saday Sinha
Banking, NBFC, Economy
saday.sinha@kotak.com
+91 22 6621 6312

Ritwik Rai
FMCG, Media
ritwik.rai@kotak.com
+91 22 6621 6310

Jayesh Kumar
Economy
kumar.jayesh@kotak.com
+91 22 6652 9172

Arun Agarwal
Automobiles
arun.agarwal@kotak.com
+91 22 6621 6143

Sumit Pokharna
Oil and Gas
sumit.pokharna@kotak.com
+91 22 6621 6313

Shrikant Chouhan
Technical analyst
shrikant.chouhan@kotak.com
+91 22 6621 6360

Disclaimer

This document is not for public distribution and has been furnished to you solely for your information and must not be reproduced or redistributed to any other person. Persons into whose possession this document may come are required to observe these restrictions. This material is for the personal information of the authorized recipient, and we are not soliciting any action based upon it. This report is not to be construed as an offer to sell or the solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be illegal. It is for the general information of clients of Kotak Securities Ltd. It does not constitute a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual clients.
We have reviewed the report, and in so far as it includes current or historical information, it is believed to be reliable though its accuracy or completeness cannot be guaranteed.
Neither Kotak Securities Limited, nor any person connected with it, accepts any liability arising from the use of this document. The recipients of this material should rely on their own investigations and take their own professional advice. Price and value of the investments referred to in this material may go up or down. Past performance is not a guide for future performance. Certain transactions -including those involving futures, options and other derivatives as well as non-investment grade securities - involve substantial risk and are not suitable for all investors. Reports based on technical analysis centers on studying charts of a stock's price movement and trading volume, as opposed to focusing on a company's fundamentals and as such, may not match with a report on a company's fundamentals.
Opinions expressed are our current opinions as of the date appearing on this material only. While we endeavor to update on a reasonable basis the information discussed in this material, there may be regulatory, compliance, or other reasons that prevent us from doing so. Prospective investors and others are cautioned that any forward-looking statements are not predictions and may be subject to change without notice. Our proprietary trading and investment businesses may make investment decisions that are inconsistent with the recommendations expressed herein.
Kotak Securities Limited has two independent equity research groups: Institutional Equities and Private Client Group. This report has been prepared by the Private Client Group . The views and opinions expressed in this document may or may not match or may be contrary with the views, estimates, rating, target price of the Institutional Equities Research Group of Kotak Securities Limited.
We and our affiliates, officers, directors, and employees world wide may: (a) from time to time, have long or short positions in, and buy or sell the securities thereof, of company (ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the company (ies) discussed herein or act as advisor or lender / borrower to such company (ies) or have other potential conflict of interest with respect to any recommendation and related information and opinions.
The analyst for this report certifies that all of the views expressed in this report accurately reflect his or her personal views about the subject company or companies and its or their securities, and no part of his or her compensation was, is or will be, directly or indirectly related to specific recommendations or views expressed in this report. No part of this material may be duplicated in any form and/or redistributed without Kotak Securities' prior written consent.