STRONG DEMAND PUSH LEADS INFRA DEVELOPMENTS

Construction sector was impacted severely in Q1-FY2021 (construction GVA contracted by 49.4%) due to Covid-19 pandemic, largely due to the lockdown imposed to contain the spread of the novel corona virus, and the subsequent migration of labour to native places. While the partial relaxation for construction activities was granted from April 20, 2020, labour migration had severely impacted execution in Q1 FY2021. As lockdown was relaxed, the decline moderated in Q2 with a contraction of 7.2% YoY. The construction activities rebounded sharply in Q3 with 6.5% growth. Subsequently the sector witnessed healthy recovery supported by focus of government on infrastructure spending, restricting overall full year decline to 8.6% during FY2021. The recovery in the construction activities was impacted to an extent in Q1-FY2022 due to the second wave of Covid-19 pandemic, which witnessed localised lockdowns and restrictions on the movement of people. Consequently, the construction GVA growth for FY2022 is expected to be healthy at ~14.3%, partly supported by lower base effect of last fiscal and healthy execution activity witnessed across key segments. Going forward, in FY2023, construction GVA is projected to grow by 12-14%.

The construction companies are likely to see healthy revenue growth of 12-15% in FY2022 supported by the availability of adequate orders-in-hand, and the government's focus on increasing infrastructure spending. Amongst the construction entities, those focused on Central Government clients like the NHAI are likely to perform better in terms of execution over the medium term, given the strong pipeline of projects. While the risk of further waves remains, the credit profile of most construction companies is expected to remain largely resilient to such short-term disruptions supported by their ability to ramp-up execution as things normalise. However, entities which have high exposure to state governments or hospitality segment could continue to see pressure depending on the counterparties. Overall, in the last one-and-half-year, measures from the government in terms of relaxation in bank guarantee requirements, increased billing frequency, and early clearance of bills, has helped in reducing the working capital requirement and improving the pace of execution. However, with the expiry of these measures, the working capital cycle and BG requirement for contractors is likely to increase.

Segment-wise growth opportunities

Roads & highways - the key growth driver: The total capital expenditure in road sector is estimated at Rs 20.3 lakh crore between FY2020-FY2025. The National Investment Pipeline (NIP) has identified about 1,820 national highway projects for implementation by the Centre which would entail investment of Rs 13.8 lakh crore. Some large projects include the new expressways which are under-construction such as the Delhi-Mumbai Expressway and Bengaluru-Chennai Expressway. The Delhi-Mumbai Expressway is a 1,380-km greenfield expressway project with an estimated project cost of Rs 98,200 crore. The construction of the expressway is being undertaken in various packages under the EPC model and till November 2021 almost entire project has been awarded with work already started on 34 packages, while another 12 packages were recently awarded. This project is estimated to be completed by the end of March 2023. The Chennai-Bengaluru Expressway is a 262-km project with an estimated project cost of Rs 20,000 crore. The project will be built under the HAM model and is estimated to be completed by the FY2024. On the state government projects, Ganga Expressway in Uttar Pradesh is a large project (594 km) which was awarded recently on BOT-Toll basis and is estimated to cost over Rs 30,000 crore.

Railway infra to remain stable: The total capital expenditure in railways is estimated at Rs 13.7 lakh crore between FY2020-FY2025. The NIP has identified about 724 railway projects for implementation. Major projects include new line, gauge conversion, capacity augmentation, dedicated freight corridor, etc. Out of the 724 projects, 697 projects worth Rs 11.97 lakh crore are planned to be implemented through the EPC mode, while 27 projects worth Rs 1.61 lakh crore will be implemented through the PPP mode. Mumbai-Ahmedabad High Speed Rail is a large project planned for completion during this period. However, the project had faced challenges in land acquisition and is likely to get delayed. The total project cost is currently estimated at Rs. 1.1 lakh crore and some tenders have been awarded under this project.

Airport segment to see higher growth: Under NIP, the total capital expenditure in airports is estimated at Rs. 1.4 lakh crore between FY2020-FY2025. The greenfield projects being planned include new airports at Navi Mumbai, MOPA (Goa), Jewar (Greater Noida), Itanagar, Bhogapuram, Dholera (Gujarat), Agatti and Rajkot. The Navi Mumbai airport is a large project with an estimated cost of Rs 16,704 crore being developed under the PPP. With an estimated capital outlay of Rs 29,560 crore, the Jewar airport in Greater Noida (Uttar Pradesh) is another large PPP-based greenfield airport project awarded in November 2019 to Zurich Airport International AG. Currently, the land acquisition process in underway and the project is expected to become operational in FY2025.

Urban infra and metro rail segment carry huge potential: Under the NIP, the total capital expenditure in urban infrastructure is estimated at Rs 19.2 lakh crore between FY2020-FY2025. The NIP has identified about 1,362 projects for implementation by the Centre which would require an investment of Rs 15.7 lakh crore over this period. Affordable housing and urban transport/metro will be the key areas of investment during this period.

Key challenges

Rising commodity prices and intense competition key risks: The operating profitability of construction companies can decline marginally due to sharp increase in prices of key raw materials like cement, steel, bituminous, etc. While many contracts have price variation clause which will limit the impact on profitability to a major extent, however, these variations being linked to inflation indices would not be covering the entire on-ground raw material price variations. For contracts which do not have built-in price variation clause, the impact on profitability is expected to be significant. This apart, intense competition in the sector resulting in many bids being lower than the base price will also impact the profitability of construction entities.

Expiry of relief measures: As part of the liquidity relief provided by the government under the Atmanirbhar Scheme, central agencies and some state governments have relaxed the bid security and performance guarantee requirements from contractors. The relief measures taken by government has helped in reducing BG requirement for construction companies; however, as these measures are likely to be temporary and can be withdrawn over the near to medium term, the BG requirement will increase considerably. While the measures have been extended in the past, once these are withdrawn the BG requirement is expected to increase considerably. This could in turn impact the liquidity position of contractors.

Stable outlook

ICRA's outlook on the construction sector is stable. The credit profile of construction companies is expected to recover in FY2022 after moderating in FY2021 due to Covid-19. While the pandemic-related uncertainties continue to remain, the impact of the second wave of Covid-19 is estimated to be limited and short-tenured, with lower restrictions and learnings from the first wave. ICRA expects the pace of execution to improve over the medium term, supported by adequate orders in hand as well as the measures taken by the government. As a result, companies which have a healthy balance sheet and orders-in-hand are expected to witness improved performance in FY2022. However, companies which are highly leveraged or have high exposure to state government projects could witness a weakening credit profile. As government bodies are key clients for most construction companies, continuation of supportive measures undertaken in the past augurs well for the sector.

- Abhishek Gupta

Assistant Vice President, ICRA

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