MEP Infrastructure Developers Ltd Management Discussions.

Global economic overview

Following growth of 3.8% in 2017, the global economy slowed in the second half of 2018 on account of a confluence of factors - the failure of Brexit negotiations, tightened financial conditions, geopolitical tensions, and higher crude oil prices that affected the major economies. Crude prices remained volatile due to multiple factors; oil prices dropped from a four-year peak of US$ 81 per barrel in October 2018 to US$ 61 per barrel in February 2019. Global economic growth in 2018 was estimated at 3.6% and projected to slow to 3.3% in 2019.

Global economic growth over the years

year 2015 2016 2017(e) 2018(e) 2019 (p)
Real GDP 3.2 3.1 3.8 3.6 3.3
growth (%)

[Source: World Economic Outlook, April 2019] E: Estimated; P: Projected

Indian economic overview

India retained its position as the sixth largest global economy and the fastest growing trillion-dollar economy. The Indian economys growth slowed to 6.8% in FY2018-19 after 7.2% in 2017-18. This slowdown was pronounced in the second half of the financial year when the economy was marked by a decline in liquidity, consumer sentiment and offtake.

The decline might have been more pronounced but for the annual rate of inflation (including food and energy prices) declining to 2.6%, one of the lowest in years. The rupee weakened to H74.45 to a dollar during the course of the year but rebounded to close at a more respectable H69.44.

India attracted US$ 38 billion in foreign inflows in 2018, which was higher than Chinas US$ 32 billion. India reported a 23-notch jump to the 77th position in the World Banks list of countries ranked for the ease of doing business. Benefiting from these structural reforms, India is expected to grow attractively across the medium-term.

(Source: CSO, Fitch, Economic Times, Business Standard, IBEF, Business Today, India Today, IMF)

Indian infrastructure sector overview

Indias infrastructure represents the backbone of its economy. The total outlay for infrastructure in the FY 2018-19 stood at H5.97 lakh crore, compared to H4.94 lakh crore for FY 2017-18. This indicates the continuing trend of the Government of India focusing on big infrastructure projects and schemes in the recent years.

The Indian infrastructure sector requires an investment of $270 billion every year. Infrastructure spending in India is projected to accelerate to at least H50 lakh crore between FY18 and FY22, making a visible impact on service delivery and providing a foundation for a inclusive economic growth.

India ranked 44th out of 167 countries in the World Banks Logistics Performance Index (LPI) 2018. In 2018, Indias infrastructure sector attracted private equity and venture capital investments worth US$ 1.97 billion.

The construction development sector and infrastructure activities sector have received FDI inflows amounting to US$ 24.91 billion and US$ 14.01 billion respectively from April 2000 to December 2018, validating the attractiveness of the country as an investment destination in general and infrastructure opportunities on the other. (Source: NBM&CW, the Hindu Business Line, IBEF)

Indian road sector review

India has the second largest road network in the world, with a total network of 5.6 million km comprising national and state highways, and urban and rural roads. National Highways account for 2% of the total road network and carry over 40% of the total traffic. Only 24 per cent of the National Highway network in India is four-laned, presenting a vast improvement scope.

During FY2018-19, 10,800 km highways were constructed, which translates into the construction of nearly 30 km per day. The Government plans to complete the construction of 200,000 km national highways by 2022.

(Source: Economic Times, Times of India)

Governmental initiatives

The Government of India aims to construct 65,000 km of national highways at a cost of H5.35 lakh crore (US$ 741.51 billion) by 2022.

The Government of India is expected to spend around H1 lakh crore during FY18-20 to build roads under Pradhan Mantri Gram Sadak Yojana (PMGSY).

The Government of India plans to invest H1.45 lakh crore in road infrastructure in the North-Eastern region between 2018 and 2020.

The GST on construction equipment declined to 18 per cent from 28 per cent, which is expected to boost infrastructure development.

Budgetary provisions

H100 lakh crore investment in infrastructure over the next five years.

A new PPP model will usher the new dawn of Indian railway.

Railways to be encouraged to invest more in suburban rail network via SPVs.

Railway infrastructure will need an investment of H50 lakh crore between 2018 and 2030.

Schemes such as Bharatmala,

Sagarmala and UDAN are bridging rural urban divide and improving our transport infrastructure.

Pradhan Mantri Gram Sadak Yojana phase 3 is envisaged to upgrade 125,000 km of road length over the next 5 years. To invest H80,250 crore for

upgradation of roads under PM Gram Sadak Yojana.

Credit Guarantee Enhancement

Corporation to be set up long-term bonds with specific focus on infra sector.

Transportation

Inter-operable One Nation One transport card: National transport card for universal travel which can used on various modes of transport (road, railways etc). The card can also be used as a ATM card for withdrawing money.

Govt plans to create MRO

(Manufacturing, Repair and Operate) industry.

PPP to be used to unleash faster development and the delivery of passenger freight services.

Comprehensive restructuring of

National Highways Programme for creation of National Highways Grid.

Government envisions using rivers for cargo transport, it will also decongest roads and railways.

Outlook

The high cost of logistics in India, 14.4% of the GDP, has come into sharp focus as one of the key factors affecting the countrys competitiveness. Inefficient logistics account for ~2% of the countrys GDP. Improving road infrastructure could have a catalytic impact on the countrys competitiveness and growth.

Increased road construction investments could enhance trade, job creation, exports and GDP growth. An investment of US$ 31 billion for national highway construction is expected to be made by 2020 in the public-private partnership mode. The Government of India intends to increase the pace of constructing highways in India to 40 km a day in 2019-20.

Bharatmala Pariyojana

The Bharatmala project is an umbrella programme undertaken by the Indian Government. Under this mega project, some 34,800 km of highways would be constructed over five years (FY2017-18 to FY2021-22) for H5.35 lakh crore.

The outlay for the first phase is expected to be funded through various sources - H2.09 trillion from the market, H1.06 trillion through private investment and H2.19 trillion from the central road fund or toll collection. The NHAI plans to raise H10,000 crore through Bharatmala Taxable Bonds in 2019-20.

Under Phase 1 of Bharatmala Pariyojana, the government approved the implementation of 24,800 km of highways and 10,000 km of balance National Highways Development Projects across five years from 2017-18 to 2021-22. The total length of projects under Bharatmala is estimated at 65,000 km.

(Source: Business Standard, Economic Times)

Hybrid Annuity Model (HAM) and Engineering Procurement and Construction (EPC)

Of the total awards by NHAI FY18, projects worth H765 billion (3,791km) were made under HAM, H430 billion (3,396km) under EPC and worth H25

billion (209 km) under Toll. There is an upcoming pipeline of projects worth H207 billion under HAM and H140 billion under EPC mode across India. Going forward, over 70% of the road projects are proposed to be awarded under EPC and Hybrid Annuity Model (HAM) routes. A total of 107 projects worth H1,202 billion, awarded until April 2019 under HAM.

Advantages of the HAM model

Sharing of financial risk between the government and the private players is a primary advantage of the HAM model.

Helps reduce an excessive dependence on banks for debt as private players can raise the required amount from equity.

Returns commence with construction.

No traffic-based risk related to toll collection.

Better revenue visibility with O&M and bi-annual annuities.

Toll collection

Tolling market is expected to increase 1.5 times from ~ 15,190 km in 2014-15 to ~ 22,200 km by 2018-19 primarily driven by number of projects bid out by NHAI and State Highway Authorities on tolling basis are expected to increase from 102-104 and 146 projects respectively in 2014-15 to 128-132 and 230-240 projects respectively in 2018-19.

Operate Maintain and Transfer (OMT)

According to CRISIL estimates, the total stretch under OMT model for NHAI and key states (combined) is expected to double from ~ 5,600 km in 2014 -15 to ~ 11,600 km by 2018-19. The total number of OMT projects is expected to increase from ~49-50 in 2014-15 to 95-105 in 2018-19. The market opportunity is slated to increase

2X from ~ H26 billion in 2014-15 to H51 billion in 2018-19.</p>

Toll, Operate, Transfer (TOT)

New Toll-Operate-Transfer (TOT) model has been introduced for efficient monetization of existing toll roads. Monetisation of 82 operating highways with investment potential of H340 billion (USD 5.3 billion) to be taken up. 1st bundle of 9 NH stretches of 680.64 Km awarded to a JV of Macquire-Ashoka at a bid value worth H97 billion which was 1.5x NHAIs base bid price. NHAI has re-invited bid for 2nd bundle of 8 stretches of 587Km located in Gujarat, Bihar, West Bengal and Rajasthan at an estimated bid value H53.6billion after receiving low bid from the bid value. Cube Highway (H1) has quoted H46.12 billion. Three more parcels have been identified for awarding in the states of Bihar, Orissa and West Bengal over the next few months. The NHAI plans to include the Eastern Peripheral Expressway project in Delhi under TOT model.

Electronic Toll Collection (ETC)

NPCI launched the electronic toll collection program in December

2016 in partnership with the National Highways Authority of India (NHAI) and the Indian Highways Management Company (IHMCL). It uses electronic tags, called FASTags, to deduct the toll from a linked bank account, allowing customers to drive through toll plazas without stopping. National Electronic Toll Collection (NETC) processed 8.62 lakh such transactions a day, up from an average of 30,000 transactions a day in January 2017. Some 22 banks issued 46 lakh FASTags, accepted at over 496 toll plazas across India. NHAI operates 372 toll plazas across the country; toll rates are revised before the start of every financial year based on the wholesale price index (WPI), which may vary from one toll plaza to another even in the same region. The toll revenue of NHAI has risen significantly in the last three years. (Source: Live Mint, Mediana.com)

Growth drivers

Increasing PPPs: India has the distinction of the largest PPP programmes globally in the roads sector. More than 560 road projects spanning 45,000 kilometres with an estimated investment of more than H200,000 crore were awarded on a PPP basis.

Increasing road traffic: Freight volume in India was projected to grow by 9% y-o-y in FY19 supported by a recovery in rail freight volumes. Roads traffic share of the total traffic in India has grown from 13.8% to 65% in freight traffic and from 32% to 90% in passenger traffic between 1951 and 2017.

Governmental focus: In the next five years, the Indian Government plans to build 83,677 kilometres of roads with a corresponding investment of H7 lakh crore (US$108 billion) - the largest ever outlay for road construction in India with a proposed road length more than two times the earths circumference (~40,000 kilometres). The Government also plans to increase the length of the National Highways to 200,000 kilometres.

Development of rural roads: The Indian Government succeeded in providing road connectivity to 85% of the 178,184 eligible rural habitations in the country under its scheme. All villages in the country are expected to be connected through a road network by 2019 (as against 2022 estimated previously) under the Pradhan Mantri Gram Sadak Yojana. The total length of roads constructed under the Pradhan Mantri Gram Sadak Yojana in 2017-18 stood at 47,447 kilometres.

Tax exemption: Companies enjoy 100% tax exemption in road projects for five years, 30% relief over the next five years and a capital grant to enhance viability.

Smart Cities: Between January 2016 (when the first batch of 20 Smart Cities was chosen through a competitive process) and January 2018, projects worth H33,970 crore were tendered. This grew by 270% in a year to H126,000 crore by February 2019. The number of projects completed increased substantially as well, reporting the kind of progress in one year that had not been achieved in the previous two.

International investments: The infrastructure sector received FDI inflows amounting to US$ 14.01 billion between April 2000 and December 2018. (Source: Live Mint, Business Today, Business Standard)

Opportunities and threats in road sector in India

Opportunities

Ambitious projects like Bharatmala are expected to provide ample opportunities for infrastructure companies to capitalise on.

Increasing road traffic and requirement for highways will lead to more bidding in road construction contracts.

With increasing highways, the tolling opportunities will also increase, benefitting companies in the space.

Threats

There could be funding risks for projects already undertaken by infra companies in case of a sustained liquidity paralysis.

Companies with stronger credentials could capture larger shares of the construction market, leaving smaller player with little room to grow.

Change in government focus could impact funding of contracts which could in turn affect construction.

Company overview

Established in 2002 by the Mumbai-based Mhaiskar family, MEP Infra carved out a distinctive reputation in helping the countrys Central and State road authorities operate and maintain road assets with efficiency. MEP is headquartered in Mumbai with a presence in eight Indian states (Maharashtra, Tamil Nadu, Rajasthan, Gujarat, Uttar Pradesh, West Bengal, Andhra Pradesh and Jharkhand). MEP is a leading player in the business of toll collection. The Companys shares are actively traded on the BSE and NSE. As on 31st March, 2019, the Company comprised 1,736 employees as on 31st, March 2019.

Risk management

People risk

There is an urgent requirement of qualified and talented manpower to look after day-to-day operations.

Mitigation

The Companys employee strength stood at 1,736 on 31st March 2019.

Costs risk

Delayed in project led to increase the overall project costs and debt burden will stretch further.

Mitigation

The Company always forecasts and analyses the outcomes in different scenarios and accordingly bids for a project which provides a plan of action for any scenario.

Pre-qualification risk

The bidding for infrastructural projects can be really competitive.

Mitigation

The Company executed more than 140 projects over the last 17 years enhancing its pre-qualification credentials and gaining confidence to execute critical projects within stringent time frame.

Financial overview

Total consolidated revenue from operations for MEP Infrastructure Developers Ltd for FY19 stood at H2,815 crore, a jump of 21 %, as compared to H2,322 crore for last year, due to increase in tolling revenue.

Profit before tax (without exceptional items) for FY19 stood at H123 crore as compared to H105 crore in the previous year. Profit After Tax for FY19 stood at H56 crore.

The Board of Directors have recommended a dividend of Re. 0.30 per share.

particulars 2018-19 2017-18
Revenue from 2,815 2,322
operations (H crore)
EBIT (H crore) 587.8 574.16
PAT* (H crore) 56 70.96
Return on equity 21.08 118.62
(%)
Current ratio (x) 0.80 0.60
Net profit 1.99 3.06
margin (%)

*without exceptional items

Return on equity: Return on equity during FY2018-19 stood at 21.08% as compared to 118.62% in FY2017-18, primarily because of QIP issue of H162 crore in FY2018-19.

Current ratio: Current ratio in FY2018-19 is up on account of increase in current liabilities in FY2018-19.

Net profit margin: Net profit margin is lower due to an addition of one time exceptional item (i.e. interest cost) amounting to H30 crore.

Internal control systems and their adequacy

The Companys internal audit system has been continuously monitored and updated to ensure that assets are safeguarded, established regulations are complied with and pending issues are addressed promptly. The audit committee reviews reports presented by the internal auditors on a routine basis. The committee makes note of the audit observations and takes corrective actions, if necessary. It maintains constant dialogue with statutory and internal auditors to ensure that internal control systems are operating effectively.

Human resources and industrial relations

The Company believes that the quality of the employees is the key to its success and is committed to equip them with skills, enabling them to seamlessly evolve with ongoing technological advancements. During the year, the Company organised training programmes in different areas such as technical skills, behavioural skills, business excellence, general management, advanced management, leadership skills, customer orientation, safety, values and code of conduct. The Companys employee strength stood at 1,736 as on 31st March 2019.

Cautionary statement

This statement made in this section describes the Companys objectives, projections, expectation and estimations which may be ‘forward-looking statements within the meaning of applicable securities laws and regulations.