Access Engineering PLC (AEL) Co-founder and Managing Director Christopher Joshua says the firm is looking at acquiring more private sector construction projects after losing lucrative government contracts when the administration changed. He also wants to grow and diversify the firm’s project mix to end its dependence on road projects.
AEL was a hot stock in 2014. When the firm went public in 2012, a share was priced at Rs25 and, in just under three years, shareholder value had grown 70%, peaking at Rs43.50 in November 2014. Investors were bullish and willing to pay Rs14.9 for every rupee the company made in profits as denoted by its P/E ratio, which usually ranged between 8 and 9.
A clear beneficiary of the post-war construction boom, the firm won many government projects, mostly to build roads. It also found work in port development projects, which helped consolidate relationships with big Chinese companies building ports in the capital Colombo and Hambantota in the south. Revenue had doubled for three consecutive years since going public. The construction firm was sitting pretty in an ivory tower with a pipeline of construction projects worth a little more than Rs50 billion in 2014. Going into 2015, many were bullish on AEL stocks, one of the two listed firms in a booming construction sector. But 2015 turned out quite differently.
AEL’s fortune reversed when a new president was sworn-in in January along with a new government. Its order book was halved by Rs24 billion as the government cancelled several of its lucrative contracts. Its earnings took a hit and shareholders lost half their value. The stock fell to below its IPO price to Rs18.50 by March 2015 and its P/E ratio had fallen to an all-time low of 6.6. The share continued to trade at a discount even towards the end of January 2016. Analysts have little doubt about AEL’s financial health and most are still bullish; a Rs5 billion debenture issue in November 2015 was oversubscribed, but they don’t foresee government contracts recovering to pre-2015 levels soon enough. Joshua told Echelon that he is not concerned about all this. He says the company is still doing well and that 2015/16 financial results will show shareholders how wrong they were about the firm. Excerpts of the interview:
Access Engineering lost half its value in the stock exchange and the firm’s order book similarly halved since the government changed in January 2015. Your stock is seen as politically sensitive on perceptions that the firm was too close to the previous government, on which the firm depended for a steady flow of lucrative infrastructure projects, mainly roads. How do you respond to shareholders who have lost value?
Let me first put things in context. Access Group was incorporated in 1989 and Access Engineering in 2001. In 2012, we decided to list on the Colombo Stock Exchange with an initial public offering because we felt the market sentiment was good for new listings. We wanted to raise capital to expand capacity to take advantage of the post-war construction boom. Our research showed room for rapid growth and expansion. I am not too concerned about how our shares are doing in the stock market. I have not invested in the stock market and I am not familiar about what goes on there. When investors ask me about the share price drop, I tell them I have no control over that. What I have is control over the firm’s performance. I tell them I can deliver growth in revenue and profit.
[pullquote]I am not too concerned about how our shares are doing in the stock market. I have no control over that[/pullquote]
In our IPO prospectus, we made a projection that revenue would double year-on-year for three years. We have done that. Revenue grew 30% on average over the past five years and profits grew 15%, although there have been a few dips along the way.
Large infrastructure projects depend on policy and government appetite to take on these projects. The previous government focused on post-war public infrastructure development and plenty of funds poured in, particularly from China. Demand for construction and engineering expertise picked up, and the local construction industry had the luxury of experiencing a phase of rapid growth.
We were certainly not the contractor that got the most number of projects. We had to bid for projects like everyone else. Perhaps because we were publicly listed, we got a lot more visibility.
When the government changed, many new projects stalled pending a review; understandably, the new administration wanted to take a second look. Fortunately for Access Engineering, many of our projects continued. However, we lost two big contracts, making a sizable hole in our order book.
What were these two projects?
One was the Northern expressway. We were one of five local contractors each awarded a portion of the road to develop with funding from local banks. Financing for the project was not finalised when the government changed, and all five contracts were cancelled. Our phase of the expressway was a Rs2 billion project. We also lost a ($85 million) project to overlay the runway at the international airport in Katunayake. The government called for international bids for the project, and two companies from Ireland and China responded. The government then decided it was better to finance the project with funds from local banks. So the two bids were cancelled and the government invited local engineering firms to make fresh bids. Only Access Engineering responded.
We entered into partnerships with global companies with expertise in aviation-related engineering – Louise Berger Group of the US, and Japanese firms Katahira & Engineers International and World Kaihatsu Kogyo. The contract was awarded to us. Here, again, financing was not finalised by the time the government changed. The new government decided against local bank funding and the project was shelved. We sent our protest to the Ministry of Finance and are yet to receive a credible response. Our US and Japanese partners understood that we had no control over policy.
So your order book, which was Rs53 billion in mid-2014, fell to around Rs24 billion by the end of November 2015?
These were the only two projects we lost. On average, we’ve maintained an order book of Rs25-30 billion, with projects ranging from two-and-a-half to three years. This is a good level for a construction firm, and we do so even now. This government is taking time to review and streamline processes for public infrastructure projects, but things will pick up again. We are engaged with the government and pre-qualified to take on a range of construction and engineering projects, so our public sector order book will grow.
We have several ongoing public infrastructure projects. There is the Kadawata-Nittambuwa road project, several water projects worth Rs4 billion and water treatment plant projects. For the Urban Development Authority, we are building two housing facilities for low-income users and another for public sector workers.
Isn’t Access Engineering mainly a builder of roads?
This is not quite true. Perhaps in the 2014/15 financial year, half the revenue came from road projects. Not this year. Revenue from roads will be less than 30%. There has been a slowdown in public infrastructure projects, but I am confident our earnings will not suffer.
As an engineering firm, we have accreditation across a broad range of engineering disciplines. We don’t just do roads and bridges. Not long ago, the firm was called the ‘Flyover Firm’, but flyovers did not even account for 5% of our business.
Our exposure to the private sector is also growing and this is not always visible. One landmark project is the luxury ITC Colombo One Hotel and Residencies at Galle Face. The contact is worth about Rs2 billion. We are laying a fibre optic cable network for Dialog Axiata PLC (DIAL); we’ve already laid more than 2,500km of fibre optic cables. Sri Lanka Telecom is also one of our customers.
In the piling front, Blue Mountain and other property developers engage us. MJF Exports is with us for subsoil work at their new warehouse in Welisara. We’re engaged in the John Keells Holdings PLC (JKH) Waterfront project with Hyundai Construction and Engineering. Our asphalt and concrete units supply to a range of private sector projects. We supply concrete to the luxury hotel project Shangri-La, luxury apartment complex Altair and mixed development project Astoria of Aviation Industry Corporation of China. The asphalt and concrete plants account for about one-third of our business. There is quite a good mix of projects and volume is coming in. We will be able to manage expectations and deliver good results.
How are you dealing with idle capacity, with public sector projects slowing down?
Our people are fully occupied. We are still attracting and retaining good talent. We even invested Rs800 million to expand capacity.
Is the firm making an effort to break away from its over-dependence on government projects?
We are conscious of the need to diversify, but it must happen within our core strengths and value addition, which is construction and engineering-related services. We provide a range of services like construction, soil investigation, piling, designing, and the production and supply of construction materials.
One sector we are looking at is property development. In the office rental space, Access Tower One, which was built and is owned by us, has operated at full capacity for the past 15 years. This gave us confidence to invest in constructing Access Tower Two at the same location. We haven’t taken it to the market yet, but we are getting inquiries. Demand for office space will grow, so this will be a profitable venture. Not only are we doing the design and construction work ourselves, we are also undertaking the electro mechanical work to expand our expertise on high rise building construction.
We are deploying technology not often used in Sri Lanka to cut construction costs. The new building uses post tensioning techniques to cut costs by as much as 10% by minimizing columns and beams. This method is popular in bridges and building construction around the world, but for some reason was never part of construction traditions in Sri Lanka.
Access Realties, a subsidiary of the firm, is the holding firm of Access Tower One and Two. We are planning something new for Access Realties, but it is too premature to discuss this right now. Access Realties contributes around 7.5% to group earnings.
We also invested in a 20-acre land bank in Malabe. Real estate development is going to be big. There will be great demand for land for housing, education and other infrastructure facilities. We acquired three property companies recently – Horizon Holdings, Horizon Ventures and Horizon Knowledge.
Another subsidiary is Access Projects, which is in the finishing business of hotels and offices. Clients include Cape Weligama, Ramada, Taj Samudra, John Keells-controlled hotels, Galle Face Hotel and Anantara Hotel operated by Hemas Holdings PLC (HHL) in Kalutara. This unit operates a manufacturing facility for aluminium ceilings. They have a patent agreement with an Italian firm for aluminium fabrication. Access Projects contributes about 10% to group earnings.
We control Sathosa Motors, the agents for Isuzu and Land Rover. We acquired the firm with excess funds after the IPO. We restructured the firm, and it is now making a significant contribution to the group. We also have a 30% stake in mechanical engineering firm ZPMC Lanka.
ZPMC is based in China and is the world’s largest container crane manufacturer used in all three terminals of the Colombo Port – public sector Jaya Container Terminal, private sector South Asia Gateway Terminals and the new Colombo International Container Terminals (CICT). We won a contract with CICT to maintain the cranes with minimum downtime according to defined key performing indicators (KPIs). We’ve been so successful in doing this that ZPMC recognized our mechanical engineering skills and expertise, and decided to take ZPMC Lanka to the region – we have done work in Saudi Arabia, Qatar and Pakistan. It contributes around 1% to group earnings, but it caters to a niche market and is very profitable.
Why did Access Engineering open a branch in the Horn of Africa, Djibouti?
When one of our partners that we did subcontracted work for, China Harbour, won a contract to develop a port in Djibouti, we were invited to provide our engineering and environmental monitoring skills, and we set up a laboratory there.
We made good profit in that project, about Rs80 million. Our port-related work in Sri Lanka with another partner, China Merchant Holdings, also saw us being invited to Djibouti for some projects in the marine and road sectors. We decided to open an office there. We are in the process of negotiating a few projects.
Around 60% of your projects were foreign funded before 2015. Is this still the case?
Even now, it is the same. Our exposure to the government’s central budget is less than 10%.
We have also made it our goal to always be liquid in order to maintain a steady supply chain. By paying on time, we make sure we get priority in supplies or services. Our earnings have always been good and the IPO infused cash into the firm, and we have been fortunate that most of the project financing had been pledged either bilaterally or by private sector companies. Payments are more or less guaranteed and timely.
In a few months from now, the 2015/16 financial results will be out. What will Access Engineering have to show?
The construction sector is going through a period of consolidation. The government is getting its policy act together. In fairness to the government, 2015 was dominated by two elections. I hope there will be some policy consistency going forward. I still see the industry in a growth phase, with many big infrastructure projects in the pipeline that Access Engineering will have access to.
We are talking to all the big contractors and following up on projects. The private sector is undertaking many big construction projects, and this is encouraging. I am confident that Access Engineering will report earnings the same as last year or even slightly better.
In other words, your upcoming 2015/16 financial results will show a contrarian view despite the firm losing big government contracts and shareholders driving down your share price?
Like I have already said, we still have quite a lot of work in the public sector, and private sector projects have also grown. We are not limited to building roads and bridges. We have been doing much more.
Success in civil engineering is all about pre-qualification. You must have the skills, expertise, capacity, experience and a proven track record. Every investor looks for all these elements in a construction firm, and we have them. If you decide to build a house, you are not going to award the contract just because you like someone. It is your home, so you will want the best engineer for the job.
But investors do look at the stock exchange to gauge the valuation of the firm; so when you lose half your value, how do you respond to their demands?
I met every investor that came to me about this and spent time explaining the position of the firm; after all, it is my job. I am asked about public perceptions and I tell them I have no control over that. What I can do is guarantee the firm’s financial performance, and I tell them I will deliver. I will not allow the firm to lose its value, or net asset value.
What’s the story behind your staff getting a stake in Access Engineering?
This happened pre-IPO. The three founder shareholders, Sumal Perera (50%), my brother-in-law Ranjan Gomez (25%) and myself (25%) decided to reward the staff. Access Engineering was my baby, but the shareholding was such. We gifted 15% to the staff for all their hard work through the years. It is a gift with no conditions.