Exit in order

Given the slow execution pace and order flows, shareholders may be better off exiting the company.

Investors can consider selling the shares of IL&FS Engineering and Construction Company (IL&FS Engineering) in the open market. The company's (earlier called Maytas Infra) efforts to pull itself out of the debt turmoil and keep operations going after the Satyam scam, although commendable, has considerably slowed its execution pace and order flows. Given this background, investors may be better-off exiting the company now, given that superior peers are currently available at reasonable valuations. Players such as IVRCL Infrastructure and Projects and Nagarjuna Construction are trading at a price-to-book of 1.4 times as against IL&FS Engineering's 5.5 times.

The open offer price is Rs 195. However, investors would receive an interest of Rs 12.34 per share for delay in offer. Together, this is at a 6 per cent premium to market price of Rs 196. The benefit of this small premium would be lost if one considers the tax on capital gains, if any, involved in off-market transactions such as an open offer. Also, only four in 10 shares tendered would be accepted, assuming all are tendered.

The offer is being made by SBG Projects and Investments and IL&FS after their share acquisition in IL&FS Engineering triggered an open offer. The former is an investment holding company of the Saudi Binladen Group, a construction contractor and developers operating in West Asia. IL & FS is involved in infrastructure project development, commercialisation and also offers infrastructure advisory services. While IL&FS was given management control by the Company Law Board after the Satyam fiasco, SBG Projects bought fresh shares by infusing about Rs 300 crore.

Operations disrupted

IL&FS Engineering nevertheless faced severe cash crunch as many of its projects under execution came to a standstill and prestigious projects such as the Rs 12,000-crore Hyderabad Metro Rail were cancelled. Debt-equity ratio, as of March 2010, was well over three times.

IL&FS Engineering managed to enter into a debt restructuring package reducing its debt from Rs 1800 crore to Rs 800 crore. This, however, came at the cost of expanding capital by a good 31 per cent. With higher equity, the dilution in earnings could be significant even when the company moves into the profit zone. Added to this, as of September 2010, the company had claims worth Rs 323 crore from erstwhile Satyam and various inter-corporate deposits worth Rs 390 crore (qualified by the auditors).

Non-recovery of the above can setback to the company's balance-sheet.

After incurring losses at the EBITDA level in FY-09, IL&FS Engineering managed to move to the profit zone at the EBIDTA level in FY-10 although it net losses remained. For the nine months ended December 2010, sales at Rs 567 crore remained flat compared with a year ago while losses halved to Rs 123 crore. It is possible that the company moves out of losses by FY-12. However, high earnings dilution and poor margins, given the quality of orders in its kitty may continue to drag its financials.

While no details about the order break-up is made available, the company is said to have about Rs 8,000 crore of order book. Also, given its present financial condition, the company may not be able to independently qualify for larger orders. The recent Rs 1300-crore road order in Nagaland, for instance, was bagged jointly with Gayathri Projects. Overall, order flows have come in trickles. In this regard, its new stakeholder, SBG Projects, may help pave way for the company to make inroads in the gulf region.

In the medium-term though, the slowdown witnessed in that region may not provide much opportunities. The offer opened on March 30 and will close on April 18. Karvy is the registrar to the offer while Edelweiss Capital manages the issue.

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