PSP Projects has a sturdy foundation & promising future prospects. Buy for target price of Rs 905: SMIFS

PSP Projects, under the leadership of a first-generation entrepreneur and technocrat, has established a commendable reputation among Gujarat-based Corporates/Public undertakings for the construction of medium-sized buildings. This is largely supported by its demonstrated construction capabilities, a commitment to timely execution, and strong brand recall. Furthermore, tightly-run operations, centralized control, and focused approach on an asset-light model have enhanced its competencies and enabled it to expand into other targeted geographies. With this, it is well positioned to leverage the substantial opportunities stemming from growing infrastructural needs, and is primed to secure sizable undertakings through the augmentation of its project bidding capacity. Moreover, an operational in-house pre-cast facility offers a distinct advantage, as it has the potential to accelerate project completion timelines and enhance client acceptance. At present, PSP offers healthy revenue visibility (Q2 FY24-end OB: Rs 49bn) with a 2.1x book-to-TTM bill. Target to bag more orders likely to sustain growth. We anticipate a CAGR of 17.7% for revenue and 20.6% for PAT over FY23-FY26E with continued execution, and a gradual improvement in operating margin. Additionally, well-managed balance sheet, strict working capital controls, and healthy return ratios are added positives. Given the favourable outlook, we initiate coverage with a Target Price of Rs905/share (15x Sept’25 estimated EPS), representing an upside potential of ~20%.

Growing opportunities, geographical expansion and rise in capabilities strengthened OB; assurance ample.

As of Q2 FY24-end, PSP’s order backlog amounted to ~ Rs49bn. It is noteworthy that despite the removal of legacy projects in Maharashtra (worth ~Rs7.2bn), the order backlog has experienced a twofold increase over the past five years, driven by growing opportunities, diversification of its presence into different states, and improved capabilities. Generally, the company intends to add orders of ~1.2x targeted revenues and is aiming to secure orders ~Rs30bn in FY24. The start to the year has been encouraging, with ~Rs9.6bn added already, excluding L1 orders. For the rest of FY24, it is banking on a strong bid pipeline of >Rs130bn. The government’s intent to increase the number of IITs, AIIMS, and medical colleges, and rising private capex keep PSP optimistic about healthy prospects ahead. Additionally, it is open to considering newer regions, provided the nature of work and order sizes justify the investments (bandwidth and capital). With this, we expect order inflows of Rs29bn, Rs33bn, and Rs38bn in FY24, FY25, and FY26, respectively.

Pre-cast facility to yield incremental advantages, expansion underway.

During the peak of the pandemic, PSP experienced a setback primarily due to the migration of labours, escalated project-related expenses, and a notable deceleration in the pace of execution. In an effort to mitigate the impact, PSP introduced an innovative facility that enables the pre-casting of components of the building industry, such as beams, columns, slabs, load-bearing walls, and staircases. The facility was initially constructed at a capex of Rs1.09bn under Phase-I, and had a capacity of 1 mn sq ft., with the potential to generate revenue of ~Rs2bn. Further, an investment of Rs0.51bn was made in H1 FY24 to construct an extra factory shed and acquire machinery and Molds primarily for infrastructure-oriented facilities. Overall, we believe that an in-house pre-cast facility provides a considerable advantage, as it augments company’s ability to expedite project completion schedules, reduces costs, and enhances client acceptances. Incremental revenues and in-line margins serve as an additional positive aspect.

Revenue expected to clock 17.7% CAGR over FY23-26E, operating margin likely to reach 12.4% by FY26E.

PSP achieved a revenue CAGR of 21.4% during FY18-23, primarily attributable to enhancements in the order book position and an increase in execution proficiency. H1 FY24 was healthy with 59.1% y/y revenue growth. We anticipate improved momentum in execution to persist, allowing PSP to achieve a CAGR of 17.7% over FY23-26E (on the higher base), resulting in an estimated revenue of ~Rs31.4bn in FY26. This is likely to be supported by its comfortable order book position, anticipated inflows, and pick-up in execution. Further, the operating margin experienced a moderation in FY23, declining to 11.7% from 14.7% in FY22 as most of the projects were in their initial stages (foundation and plinth-level work typically attractslower margins). However, we expect a gradual improvement in the margin to 12.4% by FY26E with better project mix, stable raw material prices, and increased efficiency (particularly with larger projects). Effectively, net profit to improve at 20.6% CAGR (~Rs2.3bn by FY26E).

Lean Balance Sheet, stringent WC control instils confidence on capital allocation.

PSP’s balance sheet structure is characterized by a streamlined approach, which is reinforced by its assetlight business model. Although the Capex linked to the pre-cast facility, and heightened need for working capital have resulted in a rise in gross debt recently (~Rs4bn as of Q2FY24-end), we expect it to stabilize at ~Rs3.5bn over FY24-26E. Furthermore, incremental free cash flows would to be adequate to meet future working capital and Capex requirements. The cash conversion cycle, which was 41 days at Q2FY24-end, is projected to hover at ~45-47 days in light of the change in order book mix towards government orders.

View: Given PSP’s healthy order backlog, strong execution capabilities, streamlined balance sheet, and promising prospects in key geographies, we have a positive outlook on the company’s long-term business potential. As such, we assign 15x Sept’25 estimated EPS to the business, to arrive at Target Price of Rs905. Risks: Key man dependence, lower order inflows, and addition of low-margin orders.