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Moving up the ranks

* HG Infra has transformed itself from a sub-contractor in the road sector to one of the large EPC players with a HAM portfolio. This transformation, along with high volume, helped HG Infra increase the margin from ~12% in FY17 to ~16% in FY21.

* Investments in people, plants and processes boosted growth (29% sales CAGR over FY16-FY21) and the IPO in 2018 ensured a strong balance sheet. Working capital management has been among the best in the industry.

* The government’s focus on the road sector will ensure strong growth in the medium term, while diversification in areas like water, railways and urban infrastructure will keep longterm growth prospects in the EPC business buoyant.

* We initiate coverage on HG Infra with a TP of Rs800, based on SoTP. We value the standalone EPC business at 13x Sept’23E EPS of Rs59, implying a value of Rs760/share. We value the investment in HAM at 1x Book – Rs40/share

Moving up the ranks: HG Infra started its journey as a sub-contractor to some of the renowned EPC players in the country and has now become one of the leading EPC players with a portfolio of HAM projects. Sub-contracting, which accounted for 75%/50% of revenue in 2012/2017, now contributes less than 25%. HG has increased its pre-qualification to ~Rs28bn from Rs15bn a few years back.

Investments in plants/people/process key to success: HG invested ~Rs6.6bn in the past five years in plants & equipment to support high growth and expanded its presence to eight states from two in FY15. It has strengthened its workforce by over 50% to ~4,600 employees in the last three years. The implementation of SAP improved inventory, supply chain management and project control. We believe that these factors, along with low subcontracting works, have led to EBITDA margin expansion. Strong cash flows, along with IPO money in FY18, helped reduce debt and improve net profit margin – from 5% in FY17 to 8.3% in FY21.

Medium-term growth prospects high in road sector; diversification also on the cards: Investments in the road sector during FY21-FY25 are expected to be 1.6x investments made during FY16-FY21 as per industry estimates. EPC opportunities in water, railways and urban infrastructure are large and, hence, diversification efforts will pay off in the long term.

Among the best across parameters: HG Infra has clocked a sales CAGR of 29% over the past five years (vs. 20%/25/18% for PNC/KNR/DBL). The EBITDA margin of 16% is comparable to peers’ 15-20% range. Average NWC days of last three years at 40 is better than the majority of the players’, while core RoE of 27% is superior to peers (12-23%).

Valuation and Outlook: We estimate a 24% EPS CAGR over FY21-FY24, aided by order wins in both EPC and HAM as HG can now bid for a majority of large road projects. We initiate with a TP of Rs800, valuing the EPC business at 13x Sep’23E EPS of Rs59. Peers are trading in the 9-17x range with a 500-700bps lower RoE. Key risk: slow ordering in the road sector.

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