The Hindu Business Line : B L Kashyap & Sons: Buy

The company’s comfortable order backlog, its resilience to the steep hike in raw material costs and relatively shorter execution cycles provide medium-term earnings visibility with moderate risks.

Good number of projects on hand.

Vidya Bala

Large projects in hand for real-estate companies and the increasing need for space by corporates has not only led to a boom in the realty sector but also created strong demand for quality construction contractors. B L Kashyap & Sons is among the few organised contractors in the listed space who have managed to capitalise on this ‘excess of demand over supply’ scenario. A compounded annual growth of 61 per cent and 93 per cent in sales and net profits, respectively, over the last five years suggests that the company has made the most of the boom.

B L Kashyap’s comfortable order backlog, its resilience to the steep hike in raw material costs and relatively shorter execution cycles provide medium-term earnings visibility with moderate risks.

Investors looking at a proxy for the relatively risky real-estate development business can consider exposure to the relatively less risky business of construction contract through the stock of B L Kashyap & Sons. As the stock has witnessed weakness since the beginning of 2008, investors should accumulate it in phases, taking advantage of declines. An investment horizon of two-three years is necessary to participate in the company’s growth.

Low volumes traded in the bourses as a result of historically low public holding is a risk.

At the current market price of Rs1600 the stock trades at 22 times its expected earnings for FY09. The price earnings multiple of 31 on a trailing 12-month basis is lower than historical valuations of over 40.

Visibility from order book

Kashyap’s core business is the construction of commercial, retail and residential projects as well as industrial structures for real-estate developers as well as end-users. The unexecuted orders in hand are at Rs 3,000 crore, close to four times its revenue for FY07.

The order book provides higher visibility to earnings as a good number of the projects have an execution cycle of 12-15 months.

While 75 per cent of the orders are from the commercial sector, industrial buildings account for 15 per cent, with the residential space taking up the balance.

Although the current slowdown in the real-estate market may be viewed as a risk, there are a couple of arguments that may favour Kashyap. For one, while property prices may have declined in a number of pockets, real-estate players have their hands full with projects already contracted in the commercial, retail and residential segment. In other words, the prime risk for real-estate developers today would be delayed execution. This suggests that there would be no dearth of projects for quality contractors over the next two-three years.

Further, Kashyap is not primarily dependent on real-estate developers for projects. A good number of its commercial projects are from end-users — corporates. This is the case with industrial contracts as well.

To the extent that it enjoys a good relationship with such end-users, Kashyap may be insulated from any slowdown in orders even over the long term.

Profit margins sustain

Kashyap has seen a steady growth in its operating profit margins. For the quarter ended December 2007, OPMs stood at 11.6 per cent as against 10.5 per cent a year earlier. The biggest risk currently faced by construction contractors is the steep increase in cement and steel prices, these being the key raw materials, typically accounting for close to 25 per cent of construction costs.

Kashyap has, however, managed to overcome this risk and expand margins, as almost all its contracts have price escalation clauses. In addition, these are linked to market prices rather than the Wholesale Price Index, ensuring that the company is not required to bear any part of the increase.

Kashyap had managed to significantly reduce its debt levels after its IPO. With a debt of Rs 45 crore and no exposure to foreign currency loans, there appears enough room to increase leverage. Interest costs, nevertheless, shot up on the back of the increase in interest rates over the past year.

While the company’s interest cover remains comfortable, further increases could affect net profit margins. On the positive side, Kashyap, although working capital intensive, has shorter execution cycles, thus ensuring higher working capital turnover and lower requirement of funds.

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