Detailed Rationale

CRISIL Ratings has upgraded its rating on the long-term bank facilities of Oriental Structural Engineers Private Limited (OSEPL) to ‘CRISIL AA/Stable’ from ‘CRISIL AA-/Stable’ and has reaffirmed its ‘CRISIL A1+’ rating on the short-term facilities of the company.

 

The upgrade reflects improvement in the financial risk profile and liquidity position of OSE (OSEPL and its wholly owned subsidiary, Oriental Tollways Pvt Ltd [OTPL] combined in line with the analytical approach detailed subsequently) on account of receipt of proceeds of Rs 1,250 crore (pre-tax) from the sale of Biaora Dewas project to Oriental InfraTrust (OIT; ‘CRISIL AAA/Stable’), which have been partly utilized towards part prepayment of long term debt. The company had unencumbered cash and equivalent of ~Rs 1,600 crore as on January 5, 2023, and will remain net debt negative. The Gross debt to profit before depreciation, interest and tax (PBDIT) and adjusted interest coverage ratios are expected at a comfortable between ~1-1.5 times and above ~8 times, respectively, in the next 2-3 fiscals.

 

The business risk profile of OSE remains strong following greater track record of upstreaming of cash flow from OIT, in which OSE holds ~59.2% stake. The business risk profile is further supported by achievement of commercial operations date (COD) in one hybrid annuity model (HAM) project and provisional commercial operations date (PCOD) in two HAM projects. Additionally, two HAM projects have started receiving annuities. These projects will be eligible for sale to InvIT in a medium term and the same could help the company unlock additional capital along with further step up in stable InvIT cash flows. The pending equity requirement of ~Rs 355 crore in the two under construction HAM projects along with an expected equity requirement in HAM projects which are expected to be added in next 6-12 months (to be infused over next 3-4 years) is proposed to be met by healthy cash accruals and strong liquidity position, to a great extent.

 

The ratings also reflect the strong financial flexibility available to OSE from OIT and its operational special-purpose vehicles (SPVs).

 

These strengths are partially offset by average performance of the engineering, procurement and construction (EPC) business and pending equity investments in the under-construction SPVs as well as investments in new HAM projects, which are expected to be won in the near term.  Another weakness includes subordination to OIT’s external senior lenders for distribution of surplus cash flow from OIT to OSE as per the waterfall mechanism, which is a major source of income for OSE.

Analytical Approach

CRISIL Ratings has fully consolidated the business and financial risk profiles of OSEPL and its wholly owned subsidiary, OTPL, and moderately combined the business and financial risk profiles of OSE and its SPVs for HAM projects. All the entities are collectively referred to as the OSE group.

 

CRISIL Ratings has used the holding company criteria to factor in the strength of the InvIT as OIT accounts for over ~70% capital employed of OSE.

 

Furthermore, CRISIL Ratings has factored in the equity requirement including cost overrun in under-implementation projects.

 

Advances against bank guarantees (pertaining to National Highways Authority of India [NHAI] arbitration claims) of Rs 114 crore as on March 31, 2022, have been treated as debt and assumed to be retained for the next 3-4 years.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths

Strong financial flexibility derived from the InvIT platform and operational SPVs:  The company launched its InvIT platform in June 2019. It has till date transferred six operational assets to the InvIT, unlocking its capital in the operational SPVs. The InvIT has raised Rs 2,306 crore from marquee investors such as BnR Investments LLC, International Finance Corporation, DEG and Asian Infrastructure Investment Bank, of which OSEPL and OTPL have together received a gross amount of Rs 1,556 crore and the balance was utilised to repay loans and meet issue expenses.

 

OSE derives significant financial flexibility from its ownership in OIT. It holds ~59.2% units with an adjusted market value of ~Rs. 3,200 crore basis adjusted market price of each unit at ~Rs. 93.77 on NSE. Any reduction in the overall value of holdings, most likely through stake sale, will be a rating sensitivity factor.

 

The InvIT structure helps upstream surplus cash flow; as on date, the InvIT has distributed Rs 1,631.9 crore on cash receipt basis to all its unitholders. Moreover, the OSE group has an operational portfolio of three HAM projects, which will be eligible for sale to the InvIT over the medium term and will enable the company to unlock additional capital, along with a step-up in stable InvIT cash flow. Further, the company has the option to raise funds through stake sale in the InvIT.

 

Healthy financial risk profile on account of low leverage: OSE has low leverage as reflected in Adjusted gearing of ~0.23 times and Gross debt to PBDIT ratio of ~ 1.5 times in fiscal 2022. The leverage profile is expected to improve going forward, with adjusted gearing expected below 0.2 times, Gross debt to PBDIT (including upstreaming of surplus cash from InvIT and SPVs) ratio expected between 1-1.5 times and adjusted interest coverage expected above ~8 times in the next three fiscals. The company is expected to maintain a conservative debt profile going forward and will remain net debt negative on account of the strong liquidity profile. 

 

In December 2019, tax searches were conducted on OSEPL and other group entities in connection with a potential tax liability from the setup of the InvIT platform. The management had articulated that they have complied with all applicable tax regulations and sought independent tax and legal opinions and filed appeal against the same. As on date, there are no tax claims on OSEPL and the group. That said, CRISIL Ratings will continue to monitor the situation on potential tax claims, if any.

 

Weaknesses:

Average performance of the EPC business: In the past two fiscals, the size of the EPC orders has not grown significantly, reflected in low revenue base. Also, the increase in fuel and commodity prices impacted the operating margin of the EPC business. The operating margin of the EPC business was negative for FY22.

 

The order book of OSEPL was entirely in-house and stood at ~Rs 3,322 crore as on September 30, 2022, majorly from two under-construction HAM projects with NHAI as the counterparty. Furthermore, 2-3 HAM projects are expected to be won in next 6-12 months, thereby improving the order book position and revenue visibility. The EPC margin is expected to stabilize over the next 1-2 years owing to expected improvement in topline and no further material rise in cost of key raw materials. That said, the financial position of the company is supported by stable accrual from OIT.

 

Subordination of right over cash flow from OIT as per the waterfall mechanism: OSE’s right over OIT’s cash flow is subordinate to that of external lenders and will be available for upstreaming after meeting all the debt servicing and reserve requirements of these lenders. Considering that upstreaming of surplus cash from OIT is a major source of income for OSE, stability of the cash flow is critical. This risk is partially mitigated by the strong credit risk profile of OIT with adequate liquid cushion, thus limiting the risk of volatility in cash flows.

Liquidity: Strong

Liquidity is supported by healthy cash accrual, unutilized bank limits and a strong cash and equivalent. Expected net cash accrual of over Rs 300 crore per annum for next 2-3 years along with a strong liquidity position will comfortably cover yearly term debt obligations, yearly equity requirement in the under-construction HAM projects and expected yearly equity requirement at similar levels for the new HAM projects expected to be added over next 6-12 months. Utilization of the fund-based bank limit was low averaging around 18% for fiscal 2022. Additionally, the company has not utilized any fund-based bank limits from Aug 2022 till October 2022.

Outlook: Stable

CRISIL Ratings believes OSEPL should sustain its credit risk profile backed by regular cash flow visibility from the InvIT and its operational SPVs along with maintaining a negative net debt position.

Rating Sensitivity factors

Upward Factors:

• Materially high proportion of capital employed in OIT from the current level by transfer of assets to OIT, leading to an improvement in cash flows being up streamed to OSE on a sustained basis
• Improvement in the financial risk profile by maintaining a lower gross debt to PBDIT ratio (including upstreaming of surplus cash from InvIT and SPVs) on a sustained basis along with maintaining a negative net debt status.

 

Downward Factors

• Increase in the gross debt to PBDIT ratio (including upstreaming of surplus cash from InvIT and SPVs) above 1.5 along with significant deterioration in the liquidity position.
• Significant reduction in shareholding in OIT and/or deterioration in the credit quality of the InvIT as per the CRISIL Ratings assessment
• Consistently lower revenue and profitability in the EPC segment

 

Other rating sensitivity factors

• Aggressive acquisition of third-party assets by the OIT requiring significant infusion from OSE and high leverage at the OSE level without commensurate improvement in cash flow
• Any adverse order or action in the tax liability case of OIT/OSE group

About the Company

OSEPL was incorporated in 1971 by the Bakshi family members, who held 98.9% stake as of March 2022 either directly or through group companies. The company has the required expertise to construct pavements for roads, highways and airfields. It also has experience in constructing bridges, flyovers and embankments with reinforced earth and earthwork.

 

OSEPL has two under-construction HAM projects, three operational HAM projects and three toll road projects. The company, along with OTPL, is the sponsor for the road InvIT, OIT (registered in June 2019), with combined stake of ~59.2%.

Any other information: Not applicable