A muted debut from Lanco Infratech

Lanco Infratech was trading at Rs 256, a 6.6% premium over IPO price of Rs 240.

The stock hit a low of Rs 255 and high of Rs 275. 2.05 lakh shares changed hands in the counter on BSE.

The company had priced its IPO at the higher end of the Rs 200 to Rs 240 price band.

The company has a large equity base of Rs 222.36 crore. Face value is Rs 10 per share.

Post issue FII holding is 6.35%.

Lanco Infratech is an infrastructure development company with interests in power, construction and property development. The company currently owns 11 power projects, of which five are in operation and six are under development. Its power generation capacity will increase seven times the existing capacity in the next four years. As a result, revenue and profit from power business will increase significantly. The company has also been qualified to bid for two ultra mega power projects: Sasan and Mundhra.

Its construction division had an order book of Rs 1611.83 crore on 30 September 2006. This includes contracts worth Rs 1229.95 crore with affiliates of Lanco Infratech. The entire order book will be executed by 2010.

Lanco Infratech is also obtaining approvals for a large integrated IT park and township on a 100-acre plot on which it proposes to develop 18.5 million square feet of saleable area in Manikonda, Hyderabad. The company also owns land banks, aggregating about 21.8 acres, close to Ocean Park in Hyderabad, where it intends to develop a residential housing project with one million square feet of saleable area. In addition, it has won a bid to develop an IT park and township on a 10.7-acre plot, on which it proposes to develop two million square feet of saleable area, in Vishakhapatnam, Andhra Pradesh.

Due to the nature of the business, Lanco Infratech’s projects typically require a long gestation period and substantial capital outlay before completion. It may be months or years before positive cash flows can be generated. Further, power, property development, and infrastructure and construction projects are capital intensive and will require high levels of debt financing. They will also lead to continuous dilution of equity.

Contingent liabilities of Lanco Infratech amounted to Rs 755.92 crore on 30 September 2006. Apart from these, the offtake of the Kodapalli power plant has resulted in court proceeding related to Rs 224-crore charges paid by the offtaker to Lanco Kodapalli Power (LKPPL). Lanco Infratech is in the process of raising its stake in LKPPL to 59% from current 33.9%.

Lanco plans Rs 4000 cr IT park in Hyd

Lanco Hills Technology Park Private Limited, belonging to the Lanco group, proposes to build one of the largest integrated IT parks in Hyderabad at a cost of Rs 4,000 crore.

Project work was expected to begin next month. The Hyderabad Property Project was likely to be completed in four years.

According to Lanco group vice-chairman, G Bhaskara Rao, the project will consist of 8 million square feet (sft) of IT-related built-up area, an equally large residential complex, 2.5 million sft shopping mall, 12 multiplex theatres, two star hotels and one tower for office space.

Lanco has purchased 100 acres from the Andhra Pradesh Industrial Infrastructure Corporation (APIIC) at a cost of Rs 427 crore in Manikonda, about 18 km from the upcoming Hyderabad International Airport, for the construction of the IT park.

The "Walk to Work" concept that would provide the occupants the flexibility of living within walking distance of their work place will be provided in the proposed project, Rao told Business Standard.

He said that the company would be investing Rs 500 crore in the project, of which Rs 375 crore had already been secured as loan from a consortium of banks led by Punjab National Bank.

The project would be completed in two phases and the first phase is expected to completed in two years.

Lanco has applied to the Airports Authority of India (AAI) for a no-objection certificate to construct buildings.

Rao said that the company had so far received AAI approval for 15 buildings out of the 28 buildings applied for.

While the residential space will comprise apartments from studios to three-bedroom apartments, the commercial space will have amenities such as modern fitness and recreation centres, health clinics, food courts, cafeterias, banking and foreign exchange facilities.

Retail space is intended to be a one-stop shopping and recreational space for people working as well as staying at the place.

Lanco proposes to build high-rise residential buildings of 20 to 25 floors.

"We also plan to construct a building with 70 floors, which would make it one of the tallest residential buildings in southern India," Rao said.

The company expects to enter into a development agreement with APIIC by next month and thereafter appoint an EPC contractor to execute the project.

It has already appointed separate architects and designers for the IT park and the housing project.

Thanks Akash

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Lanco Infratech

Lanco Infratech, an infrastructure development company with interests in power, construction and property development, is promoted by Mr. L. Madhusudhan Rao, Mr. G. Bhaskara Rao, Mr. L. Sridhar, Prince Stone. The company currently owns 11 power projects, of which five are in operation and six are under development.

To finance investments in various subsidiaries, pay for the acquisition of 13.3% equity interest in Aban Power, acquire 25.1% equity in Lanco Kodapalli, and for meeting general expenses, Lanco Infratech is coming out with an IPO.

Strengths

* Lanco Infratech intends to use the proceeds of the issue for acquisition of 25.1% equity interest in Lanco Kodapalli Power (LKPPL), which is expected to become a consolidated subsidiary of the company by quarter ended December 2006 as its holding will increase to 59%. LKKPL had earned revenue of Rs 555.82 crore from sale of electrical energy and a net profit of Rs 106.79 crore in FY 2006. FY 2007 consolidated financials will also include financials of Aban Power Plant, which had earned revenue of Rs 97.91 crore from sale of electrical energy and a net profit of Rs 3.35 crore in FY 2006. The plant had commenced operations in August 2005. Thus, revenue in FY 2007 likely to be higher than in the previous year. Hence, FY 2007 financials of consolidated Lanco Infratech are likely to be much higher than FY 2006.

* Currently managing power generation capacity of 518 MW (including LKPPL), power generation capacity of Lanco Infratech will increase to about 3793 MW by April 2010. This means the generation capacity will increase seven times the existing capacity in the next four years, As a result, revenue and profit from power business will increase significantly. The company has also been qualified to bid for two ultra mega power projects: Sasan and Mundhra.

* The construction division had an order book of Rs 1611.83 crore on 30 September 2006. Of this, Rs 1229.95 crore were contracts with affiliates of Lanco Infratech. The entire order book will be executed by 2010.

* Lanco Infratech is obtaining approvals for a large integrated IT park and township on a 100-acre plot on which it proposes to develop 18.5 million square feet of saleable area in Manikonda, Hyderabad. The company also owns land banks, aggregating about 21.8 acres, close to Ocean Park in Hyderabad, where it intends to develop a residential housing project with one million square feet of saleable area. In addition, it has won a bid to develop an IT park and township on a 10.7-acre plot, on which it proposes to develop two million square feet of saleable area, in Vishakhapatnam, Andhra Pradesh. The property is, however, under dispute.

Weaknesses

* Due to the nature of the business, Lanco Infratech’s projects typically require a long gestation period and substantial capital outlay before completion. It may be months or years before positive cash flows can be generated. Further, power, property development, and infrastructure and construction projects are capital intensive and will require high levels of debt financing. They will also lead to continuous dilution of equity.

* Contingent liabilities of Lanco Infratech amounted to Rs 755.92 crore on 30 September 2006. Apart from these, the offtake of the Kodapalli power plant has resulted in court proceeding related to Rs 224-crore charges paid by the offtaker to LKPPL. The offtaker claims the charges payable by it should be based on the capacity of 355 MW, which was operating capacity of the power plant at the time of signing the power purchase agreement (PPA). LKPPL has charged for electricity based on engineering, procurement and construction (EPC)- guaranteed capacity of 368.1 MW.

* Kondapalli Power Plant, Aban Power Plant and Lanco Amarkantak Power Plant rely on a single fuel supplier. Further, while LKPPL and APCL (Aban Power Company) have contracted with Gail for long-term supply of natural gas to the Kondapalli Power Plant and the Aban Power Plant, the management estimates these plants will not have sufficient fuel to operate at contracted capacity until alternative sources of fuel become available.

Valuation

The stock market’s experience with Lanco Industries and Lanco Global Systems, the group’s earlier listed companies, has not been satisfactory.

On the basis of FY 2006 earning, EPS of Lanco Infratech works out to Rs 0.8. Annualised EPS based on earning in the quarter ended June 2006 is 2.4. Though typically EPS of the power and construction companies cannot be annualised due to the seasonal nature of the business, for Lanco Infratech it is likely to be a better indicator of future earnings on account of the fact that the company had reorganised its business in May 2006 by acquiring controlling interest in 19 entities from the promoter group.

At the offer price band of Rs 200-240, the PE range (on the base Q1 earning) works out to 83 to 100. If the large numbers of projects under the company’s belt are implemented well, PE will gradually come down in the long run. Hence, only long-term investors with appetite for high risk are advised to consider this offer

Lanco Infratech - For the long haul

Lanco Infratech is in the business of construction, power generation and real estate. The company’s IPO, which opens today, is priced in a band of Rs 200-240 for an equity share of Rs 10 each with an issue size of Rs 890-1,067 crore at the two ends. The proceeds of the issue are to be used for the company’s upcoming power and property projects and for acquiring additional equity in existing plant.

Fund usage will be to the tune of Rs 642 crore in 1,015 mw Nagarjuna power plant, Rs 256 crore in 600-mw Amarkantak project and the rest for other projects. With the current projects on hand and expected earnings over the next five years, the stock holds sufficient value.

However, since most of its projects are expected to go on stream line beginning ’09, the issue may be looked at as long-term investment only. The company is undertaking several projects in various areas, with construction being its core business.

In the power sector, Lanco Infratech has a current operating capacity of 509 mw, of which 488 mw is generated from two gas-based plants. It expects to commission 690 mw of capacity in FY09 and 1,690 mw of capacity in FY10.

Of these, about 675 mw will come from hydro and 1,615 mw from two coal-based plants. This is apart from the 1,000-mw Anpara project, for which it recently won the bid, as well as the memorandum of understanding (MoU) with the Orissa government for 1,320 mw, which is at a very early stage.

The power plants are being developed through various joint ventures, which help to mitigate the risks, as well as bring in outside expertise. Of the total project, financial closure was achieved for about 1,200 mw of capacity.

In the power business, financial closure is an important milestone as tariff (or selling price) is determined as per the guidelines of regulatory authority and the off-take risk is relatively low.

While the tariff is fixed so as to provide a 14% return on equity, there is an upside to it, which comes with more than 80% plant load factor (equivalent to capacity utilisation).

However, the running plant at Kondapalli (368 mw) is at a disadvantage due to shortage of gas and had a PLF of only 67.2% in FY06. Although the fixed costs are reimbursed as per the contracts, gas shortage eliminates the upside in earnings.
In construction, it aims to generate significant revenue from in-house power projects apart from outside projects. Construction accounts for 35% and 60% of the cost in coal and hydro projects, respectively. It currently has about Rs 1,200 crore worth of projects on hand and can generate a total revenue of about Rs 4,000 crore till FY10 (apart from the Anpara project).

The company is also actively participating in the development of real estate in Hyderabad, where growth is being led by the boom in the information technology industry. It is expected to meet about 5% of commercial space demand and 7-8% of residential demand in the city over the next few years.

It owns or has won bids to develop 19.5 million square feet of saleable area, including a 100-acre IT park in Hyderabad. Due to the ongoing boom in the industry, there is significant upside in this area of business.

Since the proceeds of the IPO will go towards long-term projects, it will be incorrect to judge it on the basis of current P/E, which runs at about 200 times. Earnings should begin to flow from FY09 and stabilise by FY11.

The P/E, based on FY10 earnings, comes to around 4.0 times for the consolidated business. In comparison, estimates for power companies range at around 13 and for existing construction companies, it is about 8 times.

Based on the estimates and projections, there is sufficient value in the stock for long-term investors. However, there is an element of uncertainty with respect to project execution, funds mobilisation and regulatory environment, considering the longer horizon. Investors will have to keep a long-term view to realise the gains.

Lanco Infratech: Invest at cut-off

Investors can consider subscribing to the initial public offering (IPO) of Lanco Infratech (LITL) at the cut-off price with a medium/-long-term holding perspective. LITL is in the growth phase and earnings from the investments being made now will begin to kick in gradually from 2008-09.

The various power projects that LITL is now investing in appear well sewn-up and the company's construction business is likely to bring in revenues till the power projects go on stream.

Our recommendation factors in the positives; the risks associated with this offer are elaborated in the accompanying box.

The challenge, however, arises from the lack of experience in simultaneously managing projects of such a scale based on different fuels, but the comforting factor is that the finances and power purchase agreements have been tied up for a major part of the expansion.

Simultaneously, LITL will also be investing in the business of property development where it has no experience. The positive here is that the company owns valuable land in Hyderabad, which has appreciated significantly and where it proposes to implement an integrated information technology park and residential campus.

Holding SPVs

LITL is a holding company that invests in the equity of subsidiaries created for specific projects. It owns 34 per cent of Lanco Kondapalli Power, which owns and operates the group's biggest power asset to date — the 360 MW gas-based combined cycle power plant in Andhra Pradesh.

LITL's stake in this company will rise to 59 per cent once it completes the acquisition of 25 per cent equity from one of the existing partners.

The company will also be buying 15 per cent equity from the Aban group, taking its total stake to 51 per cent in Aban Power Company, which operates a 120 MW gas-based plant in Tamil Nadu.

The planned investment for the two purchases accounts for a little more than 15 per cent of the IPO proceeds of Rs 1,067 crore at the upper end of the price band.

The rest of the funds will be invested in the various power projects being implemented by different subsidiary companies and in the property development project in Hyderabad.

The company is now implementing a 600 MW project based on coal at Amarkantak, Chattisgarh, the first phase of which (300 MW) is scheduled to go on stream 16 months from now, followed by the second phase in October 2008.

LITL recently tied up the finances for its 1,015 MW imported coal-based power plant in association with the Nagarjuna group in Mangalore where it plans to hold 74-per cent equity.

Apart from this, the company is on the verge of reaching financial closure for a 500 MW hydro power plant in Sikkim. It has also been shortlisted as the successful bidder for the 1,000 MW coal-based project in Anpara, Uttar Pradesh. In addition to these, LITL is investing in some small hydro power plants in Himachal Pradesh and Uttaranchal.

While these smaller hydro plants will go on stream by April 08, the Nagarjuna and Sikkim projects are scheduled to start operations only by December 09 with Anpara to follow after that.

In short, the full benefit of the investments planned now will not be felt in LITL's financials before 2010-11.

Revenue streams

LITL's revenues will flow in from three streams — dividends from equity investment in the various subsidiaries implementing projects; engineering, procurement and construction (EPC) of these projects (power and property) and property development.

The construction business of the company now derives 90 per cent of its revenues from contracts with group outfits. While the use of its own construction division to implement group company projects helps in capturing value across the chain, it could also be a disadvantage if any of these projects land in distress.

The dividend income stream will depend on the policy of the various subsidiaries.

The property development income is probably subject to the highest risk among the three streams, given the company's lack of experience in this field and also the inherent volatile nature of the property market.

The key risks

The principal risk to our recommendation stems from the implementation aspect; LITL will grow from a company managing 509 MW of primarily gas-based power plants to one managing more than 3,700 MW of gas, coal, hydro and bio-mass based power plants in the next three years.

The two operating projects — Lanco Kondapalli and Aban Power — are supplied gas by Gail India. Gas supply in the Andhra Pradesh region is significantly short of demand.

While the Kondapalli project has a firm allocation, Gail's supplies in the last three years have shown a marginal declining trend.

A significant shortfall in gas supply could lead to some uncertainty as the company will have to decide between switching to liquid fuel, which is more expensive, or generating at lower capacities and take cover under the standby charges payable by the buyer.

Significantly, the gas supply agreement with Gail will come up for renewal in 2010 when some hard bargaining can be expected for both price and quantum of gas.

Any delay in the implementation of the various projects could set back the expected earnings stream of LITL; not only will the earnings and cash flows from the new projects be delayed, the revenues from construction activity would also be affected.

A steady generation of cash flows is crucial for LITL as it will be on the investment mode for the next three-four years.

The Anpara project has just been bagged by the company and the PPA is yet to be signed for offtake of power from the project.

Offer details: LITL is offering 4.44 crore shares in the price band of Rs 200-240.

The issue, which will open on November 6 and close on November 10, is lead-managed by JM Morgan Stanley, Enam Financial, ICICI Securties and Kotak Mahindra.

Lanco Infratech Ltd. IPO

Background:

• Lanco Infra Tech Ltd. (LITL) was originally incorporated on March 26, 1993 as “Lanco Constructions Limited” in Andhra Pradesh. On November 24, 2000 the company’s name was changed to present. LITL is an infrastructure development company in India with interests in power, construction and property development.
• It has experience in the execution of several power projects, transportation networks, water supply works, and commercial and residential building complexes. The power business is expected to contribute significantly to the income and profits in the near future. The property development business is still in the early stages of growth.
• It owns 11 power projects (of which five are in operation and six are under development) with current operating capacity of 149.75 MW in operation and 1,260.0 MW under development. Company’s power assets consist of gas, bio-mass, hydro, coal (indigenous and imported) and wind-based power plants. It also commenced power-trading operations in January 2006.
• Various projects executed by the company are the coffer dam for the Tehri Dam project, the Veeranam water supply project, modernisation of an 825-bed hospital for the Indian Navy in Mumbai, a cable-stayed flyover in Navi Mumbai, and construction of the Kondapalli Power Plant and the Aban Power Plant.
• In the property business, company owns or have won bids to develop approximately 19.5 mn square feet of saleable area, including a 100-acre integrated IT park and township and a 21.8-acre residential development, both located in Hyderabad.
• LITL is coming up with the issue for the purpose of the reorganization and consolidation (started in May 2006) of the power and property development businesses into one company to derive synergies from operating across various businesses in infrastructure development. Currently, it has 19 subsidiaries. Also as part of the reorganization, Lanco Kondapalli Power Private Ltd. (LKPPL) is expected to become a consolidated subsidiary of LITL by the quarter ending December 31, 2006.
• Upon completion of the issue, promoter’s holding will get reduced to 75% of the post issue equity share capital from current 93.75%.

Objects of Issue:

• Investment in various subsidiaries
• Investment in Nagarjuna Power Project
• Payment for acquisition of 13.3% equity stake in Aban Power to Aban Ventures
• Payment for acquisition of 25.1% equity stake in Lanco Kondapalli to Globeleq

Strengths:

• LITL has strong order book of Rs. 16,118.3 mn as of September 30, 2006, of which Rs. 12,299.5 mn (76.3%) represents contracts with affiliates of the company.
• LITL’s OPM & NPM have improved substantially in FY06 at 12.2% & 6.2% from 6.9% & 1.8% in FY05 respectively.
• Company’s FY06 revenue & net profit was Rs.1471 mn & Rs.91.5 mn where as in Q1FY07 LITL’s revenue stood at Rs.1102 mn & PAT Rs.93 mn (more than full year FY06 PAT).
• LITL has entered into strategic and financial partnerships with leading international firms and have strong relationships with leading Indian financial institutions, which help in easy access of funds. In the power sector, it has worked, or are currently working, with Genting Group (Malaysia), Doosan Engineering (Korea) and General Electric Company. For construction projects, it had strategic partnerships with Hyosung – Ebara Company, Voist-Alpine Tech Wabagh (India) and Punchak Niaga Holdings (Malaysia).
• Benefits from the use of the Lanco brand. LITL is the flagship company of the Lanco Group. Due to the long-standing history of the Lanco group of companies in India (over 40 years), the Lanco brand enjoys brand recognition in India. Company uses the Lanco brand in each of its power, construction and property development businesses.
• Company is present in the construction industry which is witnessing high growth fueled by the large spends on the ongoing infrastructure development projects by the Government of India. Over Rs.60,000 crores of investment is expected to be made in key infrastructure sectors like road, ports, railway and power plants in the next five years.

Weakness:

• LITL’s has been witnessing inconsistent revenue since past five years starting FY02. Also, revenues have declined at a CAGR of 4.2% since FY02.
• LITL’s had witnessed decline in net profits from Rs.107mn in FY02 to Rs.32.7 mn in FY05, however FY06 witnessed a whooping 180% rise in net profit.
• LITL’s debtors/sales ratio has increased from 10% in FY05 to 26% in FY06.
• The company has been generating negative operating cash flow for last two years. Cash from operations as on 31st Mar 2005 & 2006 was –Rs.372.59 mn & -Rs.99.65 mn respectively.
• Company’s RONW & ROCE has shown declining trend since FY02, from 16.1% &16.4% to 4.2% & 5.6% in FY05 respectively. However, both ratios showed some improvement in FY06 with RONW at 9.6% & ROCE at 6.9%.
• Construction companies are highly dependent on timely supply of the requisite raw materials. Also, prices of key raw material like cement are firming up which can have an adverse effect on company’s profit margins.

Valuation:

• The company’s net worth as on 31st March 2006 is Rs.954.28mn and book value per share at Rs.15.5 per share (pre equity issue) and Rs.4.3 post equity issue. However in Q1FY07, company’s net worth has increased substantially to Rs.3000.92 mn. On Q1FY07 post issue book value per share is Rs.13.5.Hence, company’s post issue price to book value band is14.8-17.8 times.
• Post issue annualized EPS based on 30th June 2006 earnings is Rs.1.67 per share. The shares are being offered in the price band of Rs.200-240. At P/E range of 119-143. The average industry P/E is 39 for construction industry & 11.4 for power industry.