>PATEL ENGINEERING LIMITED (FAIRWEALTH)

We initiate a buy on dips call for Patel Engineering. One can buy at levels from around 300 to 340 for a target of 550 with a time horizon of 3 months. This call presents an upside potential of 40% and 70% for investors.

Investors having a holding period of 1-3 years can invest at current levels for a target of 720.

We have valued the company through SOTP valuations, Valuation of Rs. 720 has been arrived by valuing core operations at Rs. 325(10x EBITDA multiple) per share and Real Estate business at around Rs.325 share (30% discount to market value). Core Operations of the company have been valued at EV/EBITDA multiple of 10, while real estate has been valued at 35% discount to the market value

Key Investment reasons are strong order book (more than 5 times FY08 sales) expertise in complicated and high margin Hydro power and upstream irrigation projects. Leadership in Hydro power projects with 22% market share and prequalification for 12,000 crores of upcoming Hydro Power projects. Huge Land Bank valued at over Rs. 2000 crores. And increasing interest in Power Generation Business.

Quarterly highlights:
March 24 (Reuters) - Patel Engineering Ltd won an order worth 7.99 billion rupees for tunnelling work from the Narmada Valley Development Authority. Order book size stood at 7100 cores in Dec’08.

May: Order worth INR 554.67 Crore was bagged from the Vidarbha Irrigation Development Corporation, Maharashtra for the construction of pump house with pumping machinery, electric overhead travelling crane, switch yard and construction of rising main with manifold and water hammer control device

May: order worth INR 153.37 Crore was bagged from the Himachal Pradesh Power Corporation for the construction and completion of a powerhouse complex for the 111 MW Sawra Kuddu hydroelectric projects in Shimla district.

Order book to cross 9000 Crore by middle of this year with bulk of the orders coming from Hydro sector hydro power related projects (60%), followed by irrigation (20%) and remaining is spread across transportation and micro-tunnelling.

Result Analysis:
Top line grew by a decent 31%: Patel Engineering (PE) registered steady growth in 3QFY2009. Consolidated Sales of the company were in line with our expectations increasing 31% Y-o-Y to Rs495cr (Rs379cr) on the back of a strong Order book of Rs7,100cr. For 9MFY2009, Top-line growth was a tad better at 32% to Rs1495cr (Rs1133cr).

As of 31st March Order book stood at Rs. 9000 Crore

Operating Margins higher than peers: PE enjoys higher Margins than peers as it caters to technology-intensive businesses like Hydro Power and Upstream Irrigation Systems. For 3QFY2009, the company’s OPM at 18.1 %( 15.6%) exceeded our estimates. PE has been clocking high Margins on account of operating efficiencies and having built-in price escalation clauses in place in the contracts. The pass on of incremental costs is high in the Hydro Power and Upstream Irrigation segments (which constitutes a major part of PE’s Order book) compared to other segments like Roads.

Net Profit flat on account of higher Interest cost and Depreciation:
PE posted Net Profit growth of mere 2.2% for 3QFY2009 to Rs39.7cr (Rs38.9cr) in line with our estimates. Interest costs spiked 380% to Rs21.0cr, which was however in line with our estimates. On the Tax front, the company maintains its stance that it is entitled to avail Section 80IA benefits. As a result, it provided Tax at only 18%, which we have not considered in our estimates. We have adopted a more conservative approach and factored in Tax at a marginal rate. For 9MFY2009, PE has provided for Tax at 16% v/s our provision of 30%.

Outlook and Valuation
PE has ventured into the Real Estate sector by transferring the development rights of its Historical land bank to Patel Realty India (PRIL), its 100% subsidiary. It has a land bank of around 1,000 acres spread across Hyderabad (640 acres), Bangalore (106 acres), Chennai (230 acres) and Mumbai (26 acres).

PRIL plans to develop this land bank in phases and has accordingly announced plans for the Phase I development. Under Phase I, the company is developing around 10% of the total land bank.

■ IT SEZ Park at Gachibowli, in Hyderabad (2.7 mn. sq.ft):
■ A corporate park at Jogeshwari, in Mumbai (1.08 mn. sq.ft):
■ An Integrated Township at Electronic City near Bangalore (12.1 mn sq.ft)

T0 see full report: PATEL ENGINEERING