1.

1 INTRODUCTION

FUNDAMENTAL ANALYSIS

Fundamental Analysis is really a logical and a systematic approach to estimating

the future dividends and share price. It is based on the economic premise that
shares price is determined by a number of fundamental factors relating to the
economy, industry and company. Hence, the economy fundamentals, industry
fundamentals and company fundamentals have to be considered while analysing
a security for investment purpose. Fundamental Analysis is in other words a detailed
analysis of the fundamental factors affecting the performance of the company.
Each of the shares is assumed to have an economic worth based on its present
and future earning capacity. This is called its intrinsic value or fundamental value.
The purpose of fundamental analysis is to evaluate the present and future -earning
capacity of the share based on the economy, industry and company fundamentals and there
by

assess

the

intrinsic

value

of

the

share

with

the

prevailing

market price to arrive at an investment decision. If the market price of the share
is lower than the intrinsic value, as the investor is decide to buy the share as it is
under priced. The price of such share is expected to move up in future to match
with its intrinsic value.
On the contrary, when the market price of the share is higher than its intrinsic value, it is
perceived to be over priced the market price of such share is expected to come down in the
future and hence the investor would decide to sell such a share. Fundamental Analysis
thus provides an analytical framework for investment decision-making. This analytical
framework is known as E-I-C framework (Economy-Industry-Company Analysis).

The fundamental approach calls up on the investor to make his buy or sell decision on the
basis of a detailed analysis of the information about the company, industry to which the
company

belongs,

and

economy.

This

results

in

informed

in-

vesting. For this the fundamental Analysis makes use of EIC framework of analysis.
Fundamental Analysis involves three steps:
1. Economy Analysis
2. Industry Analysis
3. Company Analysis

1. ECONOMY ANALYSIS
The performance of the company depends on the performance of the economy.
If the economy is booming, incomes rise and demand for goods will increase, the
industries and companies in general tend to be prosperous. On the other hand, if
the economy is in recession, the performance of companies will be generally
bad.
Investors are considered with those variables in the economy, which affect the
performance of the company in which they tend to invest. A study of these economic
variables would give an idea about future corporate earnings and payment of dividend and
interest to investors.

2. INDUSTRY ANALYSIS
An investor ultimately invests his money in the securities of one or more specific
companies. Each company can be characterized as belonging to an industry. The
performance of the companies would therefore, be influenced by the fortunes of the
industry to which it belongs. For this reason an analyst has to undertake an industry analysis
2

so as to study the fundamental factors affecting the performance of different industries.

At any stage of economy, there are some industries, which are fast growing and
others are stagnating or declining. If an industry is growing the companies within the
industries may also be prosperous. The performance of the companies will depend,
among other things, upon the state of industry to which they belong. Industry analysis
refers to the evaluation of the relative strength and weakness of particular industries.

3. COMPANY ANALYSIS
It is the final stage of fundamental analysis. The economy analysis helps the
investor a broad outline of the prospects of the growth in the economy. The industry
analysis helps the investor to select the industry in which investment would be
rewarding. Now he has to decide the company in which he should invest his money.
Company

Analysis

provides

the

answer

to

this

question.

It deals with the estimation of return and risk of individual shares. This calls for
information. Many pieces of information influence investment decisions. Information
regarding companies can be broadly classified into two broad categories: Internal &
External. Internal information consists of data and events made public by companies
concerning their operations. The internal information sources include annual reports to
shareholders, public and private statements of officers of the company, the companys
financial statements etc. External sources of information are those generated
independently outside the company. These prepared by investment services and the
financial press.

Also, a company analysis looks into the goods and

services proffered by the company. If the company is involved in manufacturing
activities, the analysis studies the products produced by the company and also
analyses the demand and quality of these products. Conversely, if it is a service
business, the investor studies the services put forward.

How to do a company analysis

It is essential for a company analysis to be comprehensive to obtain strategic insight.
Being a thorough evaluation of an organization, the company analysis provides
insight to rationalize processes and make revenue potentials better.
The process of conducting a company analysis involves the following steps:

The primary step is to determine the type of analysis which would work best for
your company.

Research well about the methods for analysis. In order to perform a company
analysis, it is important to understand the expected outcome for doing so. The
analysis should provide answer about what is done right and wrong on the basis of a
thorough evaluation. It is, therefore, important6 to make the right choice for
the analysis method.

.
The next step involves implementing the selected method for conducting the financial
analysis. It is important for the analysis to include internal factors affecting the
business.
As a next step, all the major findings should be supported by use of statistics.
The final step involves reviewing the results. The weaknesses are then attempted to be
corrected. The company analysis is used in concluding issues and determining the
possible solutions. The company analysis is conducted to provide a picture of the
company at a specific time, thus providing the best way of enhancing a company,
internally as well as externally.

 Start With the Balance Sheet

Like your own financial position, a company's financial position is defined by its
assets and liabilities. A company's financial position also includes shareholder equity.
All this information is presented to shareholders in the balance sheet.

Let's suppose that we are examining the financial statements of fictitious publicly
listed retailer, The Outlet, to evaluate its financial position. To do this, we examine
the company's annual report, which can often be downloaded from a company's
website. The standard format for the balance sheet is assets, followed by liabilities,
then shareholder equity.
Current Assets and Liabilities:
Assets and liabilities are broken into current and non-current items. Current assets
or liabilities are those with an expected life of less than 12 months. For example,
suppose that the inventories that The Outlet reported as of January 31, 2010, are
expected to be sold within the following year, whereupon the level of inventory will
fall and the amount of cash will rise.
Like most other retailers, The Outlet's inventory represents a big proportion
of its current assets, and so should be carefully examined. Since inventory requires a
real investment of precious capital, companies will try to minimize the value of
inventory for a given level of sales, or maximize the level of sales for a given level of
inventory. So, if The Outlet sees a 20% fall in inventory value together with a 23%
jump in sales over the prior year, this is a sign they are managing their inventory
relatively well. This reduction makes a positive contribution to the company's
operating cash flows.
Current liabilities are the obligations the company has to pay within the coming
year, and include existing (or accrued) obligations to suppliers, employees, the tax
office and providers of short-term finance. Companies try to manage cash flow to
ensure that funds are available to meet these short-term liabilities as they come due.

The Current Ratio

The current ratio - which is total current assets divided by total current liabilities - is
commonly used by analysts to assess the ability of a company to meet its short-term
obligations. An acceptable current ratio varies across industries, but should not be so
low that it suggests impending insolvency, or so high that it indicates an unnecessary
build-up in cash, receivables or inventory. Like any form of ratio analysis, the
evaluation of a company's current ratio should take place in relation to the past.

Non-Current Assets and Liabilities

Non-current assets or liabilities are those with lives expected to extend beyond the
next year. For a company like The Outlet, its biggest non-current asset is likely to be
the property, plant and equipment the company needs to run its business.
Long-term liabilities might be related to obligations under property, plant and
equipment leasing contracts, along with other borrowings.
Financial Position: Book Value
If we subtract total liabilities from assets, we are left with shareholder equity.
Essentially, this is the book value, or accounting value, of the shareholders' stake in
the company. It is principally made up of the capital contributed by shareholders over
time and profits earned and retained by the company, including that portion of the
any profit not paid to shareholders as a dividend
Market-to-Book Multiple:
By comparing the company's market value to its book value, investors can in
part determine whether a stock is under- or over-priced. The market-to-book
multiple, while it does have shortcomings, remains a key tool for value investors
Extensive academic evidence shows that companies with low market-to-book stocks
perform better than those with high multiples. This makes sense since a low marketto-book multiple shows that the company has a strong financial position in relation to
its price tag.
7

The Income Statement

The income statement is basically the first financial statement you will come
across in an annual report or quarterly Securities And Exchange Commission (SEC)
filing.
It also contains the numbers most often discussed when a company announces its
results - numbers such as revenue, earnings and earnings per share. Basically, the
income statement shows how much money the company generated (revenue), how
much it spent (expenses) and the difference between the two (profit) over a certain
time period.
When it comes to analysing fundamentals, the income statement lets investors
know how well the company's business is performing - or, basically, whether or not
the company is making money. Generally speaking, companies ought to be able to
bring in more money than they spend or they don't stay in business for long. Those
companies with low expenses relative to revenue - or high profits relative to revenue
- signal strong fundamentals to investors.
Revenue as an investor signal
Revenue, also commonly known as sales, is generally the most straightforward part
of the income statement. Often, there is just a single number that represents all the
money a company brought in during a specific time period, although big companies
sometimes break down revenue by business segment or geography.
The best way for a company to improve profitability is by increasing sales revenue.
For instance, Starbucks Coffee has aggressive long-term sales growth goals that
include a distribution system of 20,000 stores worldwide. Consistent sales growth
has been a strong driver of Starbucks' profitability.
The best revenue are those that continue year in and year out. Temporary increases,
such as those that might result from a short-term promotion, are less valuable and
should garner a lower price-to-earnings multiple for a company.

There are many kinds of expenses, but the two most common are the cost of
goods sold (COGS) and selling, general and administrative expenses (SG&A). Cost
of goods sold is the expense most directly involved in creating revenue. It represents
the costs of producing or purchasing the goods or services sold by the company. For
example, if Wal-Mart pays a supplier $4 for a box of soap, which it sells to customers
for $5. When it is sold, Wal-Mart's cost of good sold for the box of soap would
be $4.

Next, costs involved in operating the business are SG&A. This category
includes marketing, salaries, utility bills, technology expenses and other general costs
associated with running a business. SG&A also includes depreciation and
amortization. Companies must include the cost of replacing worn out assets.
Remember, some corporate expenses, such as research and development (R&D) at
technology companies, are crucial to future growth and should not be cut, even
though doing so may make for a better-looking earnings report. Finally, there are
financial costs, notably taxes and interest payments, which need to be considered.
Profits = Revenue - Expenses
Profit, most simply put, is equal to total revenue minus total expenses. However,
there are several commonly used profit subcategories that tell investors how the
company is performing. Gross profit is calculated as revenue minus cost of sales.
Returning to Wal-Mart again, the gross profit from the sale of the soap would have
been $1 ($5 sales price less $4 cost of goods sold = $1 gross profit).
Companies with high gross margins will have a lot of money left over to spend on
other business operations, such as R&D or marketing. So be on the lookout for
downward trends in the gross margin rate over time. This is a telltale sign of future
problems facing the bottom line. When cost of goods sold rises rapidly, they are
likely to lower gross profit margins - unless, of course, the company can pass these
costs onto customers in the form of higher prices.
Operating profit is equal to revenues minus the cost of sales and SG&A. This number
represents the profit a company made from its actual operations, and excludes certain
9

expenses and revenues that may not be related to its central operations. High
operating margins can mean the company has effective control of costs, or that sales
are increasing faster than operating costs. Operating profit also gives investors an
opportunity to do profit-margin comparisons between companies that do not issue a
separate disclosure of their cost of goods sold figures (which are needed to do gross
margin analysis). Operating profit measures how much cash the business throws off,
and some consider it a more reliable measure of profitability since it is harder to
manipulate with accounting tricks than net earnings.
Net income generally represents the company's profit after all expenses, including
financial expenses, have been paid. This number is often called the "bottom line" and
is generally the figure people refer to when they use the word "profit" or "earnings".
When a company has a high profit margin, it usually means that it also has one or
more advantages over its competition. Companies with high net profit margins have
a bigger cushion to protect themselves during the hard times. Companies with low
profit margins can get wiped out in a downturn. And companies with profit margins
reflecting a competitive advantage is able to improve their market share during the
hard times - leaving them even better positioned when things improve again.

The Cash Flow Statement

The cash flow statement shows how much cash comes in and goes out of the over
the quarter or the year. At that sounds lot like the income statement in that it records
financial performance over a specified period.
What distinguishes the two is accrual accounting, which is found on the Accrual
accounting requires companies to record revenues and expenses when transactions
occur, not when casis exchanged. At the same time, the income statement, on the
other hand, often includes non-cash revenues which the statement of cash flows does
not include.

10

Cash Flow Statement Considerations:

Savvy investors are attracted to companies that produce plenty of free cash
flow (FCF). Free cash flow signals a company's ability to pay debt, pay dividends,
buy back stock and facilitate the growth of BUSINESS. Free cash flow, which is
essentially the excess cash produced by the company, can be returned to shareholders
or invested in new growth opportunities without hurting the existing operations. The
most common method of calculating free cash flow is:

Ideally, investors would like to see that the company can pay for the investing
figure out of operations without having to rely on outside financing to do so. A
company's ability to pay for its own operations and growth signals to investors
that it has very strong fundamentals.

11

OBJECTIVES OF THE STUDY

To do Fundamental Analysis of CONSTRUCTION SECTOR

To compute the intrinsic values.
To determine the market price of the share is overpriced or under
priced on the basis of intrinsic values.

2.1 SCOPE OF THE STUDY

It gives a brief introduction of stock brokers and stock exchanges and it

also tries to familiarize the

indices SENSEX and shows the

importance of these studies.

It also gives us a detailed insight about the Ventura capital Ltd, its
origin and growth, what is the network behind the system for its effective

working etc.
It explains fundamental analysis of the major companies in the
Construction sector.

2.3 LIMITATIONS OF THE STUDY

The research is based information collected from the past data.

The intrinsic value of the company is determined by the profit, which the
company earns over a period of time and it is directly related to both in

internal and external factors, which are out of once control.

The market price of the company is determined by the trading, which goes
on in the secondary market, and it is mostly influenced by emotions of
individual, which is also out of once control.

12

2.4 REVIEW OF LITERATURE

As mentioned earlier, the history of fundamental analysis as a trading mechanism

began with Benjamin Graham in 1928. Graham published his first book, Security
Analysis in 1934. This book defined the framework of Value Investment and is
now in its fifth edition. Since that time, a great deal of research focused on specific
fundamental measures as key determinants of a securities future price confirmed
that data on firm size could be used to create portfolios that earn excess
returns.
Reinganum
A significant contribution of the fundamental models is that they provide for the
calculation of a number of financial ratios. These ratios are then used to assess the
financial health of a company, and to compare directly to the ratios for different
companies, which found that stocks with a high book to-market value yielded
higher long-term returns. There is a long established tradition of attempting to
use these fundamental ratios as predictors of a companys future share price.
Rosenbergetal

Focused on high book to market securities, and shows that the mean return
earned by a high book-to-market investor can be right shifted by at least 7.5%
annually. He also studied a number of different fundamental ratios and criteria
with similar outcomes, and notes that returns are concentrated in small and
medium size companies, companies with low share turnover, and firms with
low analyst following

Piotroski

13

3.1 COMPANY PROFILE

Ventura Securities Ltd. (Ventura) commenced

operations in 1994 as a stock broking house. Over
the past two decades, we have grown into a group of
companies that provides a complete array of
financial products and services.
Through a large network of sub-brokers, we offer our clients the opportunity to
invest and trade in equity and equity derivatives, commodities, mutual funds, fixed
income products and currency futures.
We also directly facilitate clients who wish to trade in equity online via our in-house,
customized and ready to use software Pointer which enables seamless processes
and flawless execution. We adhere to a well-defined risk management system and
settlement mechanism thereby conducting fully compliant operations.
Beyond investment avenues, the Ventura Group is constantly committed to providing
investors with access to timely and relevant research and data to ensure an informed
and fruitful investment experience.

Our Mission

To build true relationships and strive towards customer

delight, through constant innovation on a strong foundation of
dedicated and trained resources.

14

DIRECTOR

Sajid

Malice-promoter

of

Ventura

and

Director

A chartered accountant by qualification, Sajid Mallik is also the Promoter and

Managing Director of Genesys International, a company with focus on GIS mapping
and engineering designing services, listed on the NSE and BSE.

The Ventura Credo :

Building and valuing true partnerships:
When it comes to our business partners, we see our success reflected in their
progress. We have facilitated them all the way with technology and marketing
strategies and in turn have been rewarded with their performance and loyalty.
'Think and it's there' approach:
We envisage all our clients' diverse needs - ranging from financial planning to
wealth management - well in advance and provide them with resources, tools and
solutions to fulfill them.
Constant innovation:
Change for the better has become a way of life at Ventura. Innovations have
always been customer centric which has been amply reflected in the upgradation of
systems to facilitate our network partners.
Team Ventura:
Our dedicated and well trained people represent the pillar of strength and
success at Ventura. Each of our members has internalized our mission and are
constantly striving to build on

15

PHILOSOPHY AND POLICY:

Business philosophy

Ethical

Practices

&

Transparency

In

All

Dealings.

Customer

interest

above own interest; always deliver what promise, effective cost management.
Quality assurance policy
Venture broking committed to being the Leader in providing World Class
Products & Services which exceed the expectations of its customers achieved by
teamwork and a process of continues improvement

Motto

Companies motto is to make customer smile - To have complete harmony between

Quality-in-Process and continues improvement to deliver exceptional service that
will delight Its Customers and Clients.

CRM Policy

Customer is king
Customer is the most important visitor on our premises, he is not dependent On us
but we are dependent on him, he is not an interruption in our work, but is the
purpose of it, we are not doing him a favour by serving, he is doing us a favour by
giving us an opportunity to do so.

SERVICES:
E-Broking
They offers several user-friendly services for customers to manage their stock
portfolios, including online capabilities linked to an information database to help
customers confidently invest. Its e-broking services are specially designed for the
net-savvy traders and investors who prefer operating from their home or office
through the internet.
16

Commodities :
Indian markets have recently thrown open a new avenue for retail investors and
traders to participate: commodity derivatives. For those who want to diversify their
portfolios beyond shares, bonds and real estate, commodities are one of the best
options.
Commodities actually offer immense potential to become a separate asset class for
market-savvy investors, arbitrageurs and speculators. Commodities are easy to
understand and are based on the fundamentals of demand and supply. Retail
investors should understand the risks and advantages of trading in commodities
futures before taking a leap. Historically, prices in commodities futures have been
less volatile compared with equity and bonds, thus providing an efficient portfolio
diversification option
PMS (Portfolio Management Services)
Successful investing in Capital Markets demands ever more time and expertise.
Investment Management is an art and a science in itself. Professional Investment
Management Services are no longer the privilege of only large institutional
investors. Portfolio Management Services (PMS) is one such service that is fast
gaining eminence as an investment avenue of choice for High Net worth Investors.

PMS is a sophisticated investment vehicle that offers a range of specialized

investment strategies to capitalize on opportunities in the market. The Portfolio
Management Service combined with competent fund management, dedicated
research and technology,
Investment advisory :
To derive optimum returns from equity as an asset class requires professional
guidance and advice. Professional assistance will always be beneficial in wealth
creation. Investment decisions without expert advice would be like treating ailment
without the help of a doctor.
Mutual Fund:
17

The

Mutual Fund distribution and advisory division offers customers the

opportunity to diversify their investment portfolio. By offering a choice of

investment schemes from all major mutual fund providers Angel have taken its
100% retail-focused philosophy a step further.
Mutual Fund offers options catering to investors with varying risk-return profiles. It
also help investors to choose the best mutual fund, based on their investment needs.
IPO (Initial Public Offer)
Broking offers all majors IPOs to their customer. Its research desk also provides
advice and all the details of issuing company.

18

3.2 Theoretical aspect of stock Exchange

A broker is an intermediary who arranges to buy and sell securities on behalf of
clients (buyer and seller).
According to Rule 2 (e) of SEBI (Stock Brokers and Sub-Brokers) Rules,
1992, a Stockbroker means a member of a recognized stock exchange. No
stockbroker is allowed to buy, sell or deal in securities, unless he or she holds a
certificate of Registration granted by SEBI.
A stockbroker applies for registration to SEBI through a stock exchange or stock
Exchanges of which he or she is admitted as a member. SEBI may grant a
Certificate to a stock-broker [as per SEBI (Stock Brokers and Sub-Brokers
Rules.1992] subject to the conditions that:
a) He holds the membership of any stock exchange;
b) He shall abide by the rules, regulations and bye-laws of the stock
exchange or stock exchanges of which he is a member;
c) In case of any change in the status and constitution, he shall obtain prior Permission
of SEBI to continue to buy, sell or deal in securities in any stock Exchange;
d) He shall pay the amount of fees for registration in the prescribed manner; and
e) He shall take adequate steps for redressal of grievances of the investors
within one month of the date of the receipt of the complaint and keep SEBI
Informed about the number, nature and other particulars of the complaints.
While considering the application of an entity for grant of registration as a stockbroker,
SEBI shall take into account the following namely, whether the
Stock broker applicant a) is eligible to be admitted as a member of a stock exchange;
b) Has the necessary infrastructure like adequate office space, equipment and
manpower to effectively discharge his activities;
c) Has any past experience in the business of buying, selling or dealing in Securities.

19

STOCK EXCHANGES IN INDIA

Bombay Stock Exchange (BSE)
A very common name for all traders in the stock market, BSE, stands for Bombay
Stock Exchange. The market not only in the country, but also in Asia. The early
days of BSE was known as "The Native Share &Stock Brokers Association." It
was established in the year 1875 and became the first stock exchange in the
country to be recognized by the government. In 1956, BSE obtained a permanent
recognition from the Government of India under the Securities Contracts
(Regulation) Act, 1956.
In the past and even now, it plays a pivotal role in the development of the country's
capital market. This is recognized worldwide and its index, SENSEX, is also tracked
worldwide. Earlier it was an Association of Persons (AOP), but now it is a
demutualised and corporatized entity incorporated under the provisions of the
Companies Act, 1956, pursuant to the BSE (Corporatization and Demutualization)
Scheme, 2005 notified by the Securities and Exchange Board of India (SEBI).
National Stock Exchange (NSE)
The National Stock Exchange of India (NSE) was incorporated in
November 1992 as a tax-paying company. It is recognized under Securities
Contracts (Regulation) Act, 1956 in 1993 as a stock exchange. In June 1994, it
commenced operations in the Wholesale Debt Market (WDM). In November, the
same year, the Capital Market (Equities) segment commenced operations and the
Derivatives segment in June 2000.
Regional Stock Exchanges (RSE)
There are 23 stock exchanges in India. Among them two are national level stock
exchanges namely Bombay Stock Exchange (BSE) and National Stock
Exchange of India (NSE). The rest 21 are Regional Stock Exchanges (RSE).

20

4.1 RESEARCH METHODOLOGY

A research design is the arrangement of conditions for collection and analysis and
data in a manner that aims to combine relevance to the research purpose with
economy in the procedure. It provides the source and type of information, approach
used for gathering and analysing data, time and cost relevant for the research study.
SAMPLING METHOD
The researcher has used the non-profitability convenience sampling. This sampling
method involves purposive or deliberate selection of particular unit of the universe
for constituting a sample, which represents the universe. Using the BSE SENSEX 3
companies were selected from the CONSTRUCTION SECTOR.
METHOD OF DATA COLLECTION
The study basically used secondary data. Secondary data means that data that
already available. Generally speaking secondary data is collected from
Organization or agencies, which have already been processed when the researcher
utilizes secondary data he/she has to look into various source from where he can
obtain them. The process of secondary data collection and analysis is called desk
research. Secondary data provides economy in time and cost it is easily available and
unbiased. Secondary data may either be published data or unpublished data.

21

4.2 TOOLS USED FOR ANALYSIS

1. PAY OUT RATIO
Pay-out ratio is calculated to find the extent to which earnings per share have
been retained in the business. It is an important ratio because ploughing back of
profits enables a company to grow and pay more dividends in future.
Pay-out ratio = Dividend per share / Earnings per share.
2. RETURN ON EQUITY
Return on equity capital, which is the relationship between profits of a company and
its equity capital. This ratio is more meaningful to the equity shareholders who are
interested to know profits earned by the company and those profits, which can be
made available to pay dividend to them.
Return on equity = Profit after tax / Net worth
3. PRICE EARNING RATIO
Price earnings ratio is the ratio between market price per equity share and earnings
per share. The ratio is calculated to make an estimate of appreciation in the value of a
share of a company and is widely used by investors to decide whether or not to buy
share in a particular company.
Price earnings ratio = Market price / EPS
4. LONG TERM GROWTH RATE
Long-term growth rate is the relationship between average retention ratio and
average return on equity. This ratio is help to find the long term growth rate of the
share.
Long term growth rate = Average retention ratio * Average ROE

22

4. PROJECTED EPS
This ratio is calculated by current year earning per share in to one plus growth
rate.
Projected EPS = Current year EPS (1 + Growth rate)
5. INTRINSIC VALUE
Each of the shares is assumed to have an economic worth based on its present
and future earning capacity, this is called intrinsic value. Intrinsic value is the
relation between projected earnings per share and normalized average profit earnings
ratio.
Intrinsic value = Projected EPS * Normalized average PE ratio

23

INDUSTRY ANALYSIS

CONSTRUCTION INDUSTRY IN INDIA

INTRODUCTION
The Construction industry of India is an important indicator of the
development as it creates investment opportunities across various related sectors. The
construction industry has contributed an estimated 6708 billion to the national GDP
in 2011-12 (a share of around 8%). The industry is fragmented, with a handful of
major companies involved in the construction activities across all segments; medium
sized companies specializing in niche activities activities; and small and medium
contractors who work on the subcontractor basis and carry out the work in the field.
In 2011, there were slightly over 500 construction equipment manufacturing
companies in all of India. The sector is labour-intensive and, including indirect jobs,
provides employment to more than 35 million people.

India is on the verge of witnessing a sustained growth in infrastructure build

up. The construction industry has been witness to a strong growth wave powered by
large spends on housing, road, ports, water supply, rail transport and airport
development. While the construction sector's growth has fallen as compared to the
pre-2008 period, it has picked up in the recent past. Its share as a percentage of GDP
has increased considerably as compared to the last decade. To put things in
perspective, the total investment in infrastructure - which in this case includes roads,
railways, ports, airports, electricity, telecommunications, oil gas pipelines and
irrigation - is estimated to have increased from 5.7% of GDP in 2007 to around 8.0%
by 2012. The Planning Commission of India has proposed an investment of around
US$ 1 trillion in the Twelfth five-year plan (2012-2017), which is double of that in
the Eleventh five-year plan.

24

From a policy perspective, there has been a growing consensus that a

private-public partnership is required to remove difficulties concerning the
development of infrastructure in the country. Given that the resource constraints of
the public sector will continue to limit public investment in infrastructure, especially backward and rural areas - the PPP based development will be needed
wherever feasible. At the same time, reviewing the factors that constrain private
investments would be necessary to encourage and speed up the process. The share of
private investments is expected to increase to half in the Twelfth five-year plan as
compared to the intended 30% for the Eleventh five-year plan.

The real estate industry comprising of construction and development of properties

has grown from family based entities with focus on single products and having one
market presence into corporate entities with multi-city presence having differentiated
products. The industry has witnessed considerable shift from traditional financing
methods and limited debt support to an era of structured finance, private equity and
public offering.

The construction sector is a major employment driver, being the second largest
employer in the country, next only to agriculture. This is because of the chain of
backward and forward linkages that the sector has with other sectors of the economy.
About 250 ancillary industries such as cement, steel, brick, timber and building
material are dependent on the construction industry. A unit increase in expenditure in
this sector has a multiplier effect and the capacity to generate income as high as five
times.

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KEY
POINT
Supply

The past few years has seen a substantial increase

in the number of contractors and builders,
especially in the housing and road construction
segment.

Demand

Demand exceeds supply by a large margin.

Demand for quality infrastructure construction is
mainly emanating from the housing, transportation
and urban development segments.

Barriers to entry

Low for road and housing construction. However,

high working capital requirements can create
growth problems for companies with weak
financial muscle.

Bargaining power of
suppliers

Low. Due to the rapid increase in the number of

contractors and construction service providers,
margins have been stagnant despite strong growth
in volumes.

Bargaining power of
customers

Low. The country still lacks adequate

infrastructure facilities and citizens have to pay for
using public services.

Competition

Very high across segments like road construction,

housing and urban infrastructure development.
Relatively less in airport and port development.

Identifying a construction stock: Do's and don'ts

The construction sector can be broadly classified into three sub-segments:

Infrastructure (roads, power, ports and urban infrastructure)

Real estate and
Industrial construction (steel plants, textile plants, refineries, pipeline etc.)

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Infrastructure: The government spending on infrastructure is the most important

demand driver for the construction industry. Since adequate infrastructure is essential
for sustained economic growth, infrastructure construction has gained significant
importance over the past few years, mainly in the form of development of roads, &
sanitation, irrigation and ports projects. In most of the segments of infrastructure
construction, the government is focusing on private public partnership (PPP) model
to achieve faster execution of projects.
The basic framework for involves constructing projects on BOT (build-operatetransfer) basis, whereby a construction company builds and operates a project for a
period of say 20 to 30 years (called concession period) and then transfers the project
in a well-maintained condition to the government free of cost. During this concession
period, the entire toll revenues collected by the construction company belong to it.
Then, there is a second type of BOT contract, called as 'annuity contracts', whereby
the toll is collected by the government and is then shared (pre-determined) with the
construction company that had constructed the project and is operating the same on
behalf of the government.
Real estate: Demand supply-gap for quality residential housing favourable
demographics, rising income levels, availability of financing option as well as fiscal
benefits available on availing of home loan are the key drivers supporting the
demand for residential construction. In addition to this, demand for office space from
IT/BPO segment is expected to continue due to emergence of India as a preferred
outsourcing destination. Also, buoyancy in organised retail is expected to result in
huge demand for real estate construction.

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Industrial: Industrial construction is primarily driven by capacity expansion plans of

manufacturing companies, which in turn is dependent upon the aggregate demand in
the

economy

and

consequently

current

capacity

utilisation

levels.

For

instance, metal and refinery companies, which have been operating at high
utilisations levels, have planned huge capacity expansion going forward, which shall
entail large spends on construction activities.

Balance sheet strength:

The Indian construction industry is witnessing market share gains by bigger
players. This means that bigger companies are growing bigger and bigger at the
expense of smaller players. As per a survey conducted by CMIE, over the past 10
years, the market share of top 30 construction companies has increased from 50% to
90%. This is primarily due to increasing complexity of projects, stricter technical
qualifications, and cumbersome process of forming consortiums for smaller players.
We believe that this trend will continue going forward and hence investors need to
invest in bigger construction companies that are more likely to win orders based on
their pre-qualification status (determined by the balance-sheet strength and
experience in handling similar projects).
Order book: Order book of a company has a direct bearing on its future revenues.
Since the construction business is primarily a tender driven business, strong order
book provides revenue visibility to the firm. It should, however, be noted that order
book only includes cash contracts and not projects allotted on BOT (build-operatetransfer) basis. In case of BOT, returns are in the form of annuity and toll and are
generally spread over a period of 15, 20 or 30 years.
28

Execution period: For a construction company, revenue is primarily a function of

order book size as well as the execution period. The order book tenure (or the
execution period) in turn, is dependent upon the order mix of the company. For
instance, transportation projects have a lower gestation period as compared to power
and tunnel projects. Hence, a company with higher proportion of low gestations
projects in its order book is likely to witness higher conversion rate and a faster
growth in revenues.
Increased investments in infrastructure and huge capacity addition plans by
manufacturing companies have resulted in huge order books for construction
companies. We believe that the timely execution of projects in the wake of human
resource shortage will be the key challenge for construction companies going
forward. Hence, one should be a bit conservative as far as the sales growth is
considered.
Margin drivers
Order mix: Depending upon the nature of projects in hand, the margin profile of the
company keeps on fluctuating. Due to the fragmented nature of the industry, project
margins are generally dependent upon the level of competition in a particular
segment, which in turn is dependent upon the level of expertise required to execute
such projects. For instance, power projects involve higher margins as compared to
road projects, since the execution of the former involves greater expertise.
Construction cost: Since projects are bid on cost estimations, any increase in price
of inputs will have a direct impact on the company's profitability. On an average,
material costs account for 45% to 50% of the operating cost of a construction
company. Unprecedented rise in prices of key inputs like cement and steel might
affect margins. Though most of the projects have price-escalation clause for increase
in input cost, they are not sufficient to cover the incremental rise in prices. This is
mainly due to the linking of the price-escalation clause with the wholesale price
index (WPI). Therefore, if the rise in input cost is higher than the rise in WPI, the
additional cost will have to be borne by the company. Contracts that include 'star
price' on key materials like cement and steel is also becoming increasingly popular.
In such contracts any increase/decrease in prices goes to client's account.
29

Key parameters for selecting a construction stock

For an average investor, size of the order book remains the sole criteria for investing
in construction companies. More often than not, their decisions are based on order
book to sales ratio of companies with little or no importance attached to the
execution time and the margins of the projects. While order book to sales definitely
gives an indication of visibility in growth of company's revenues, there are a few
more things that investors need to consider before investing in stocks from the sector.
These include:
Management: Though management is an important criterion for investment across
the sectors, we believe that the same assumes greater significance in the construction
industry considering the poor discloses standards followed by the companies.
Segment presence: As mentioned earlier, the segment(s) in which a company
operates has a direct impact on its revenues as well as profitability. Investors should
invest in companies, which have expertise to execute diverse projects as also has the
required skill-sets to execute projects with greater complexities (as these earn
relatively better margins as compared to plain road construction type of projects).
Key ratio: Besides looking at order book to sales ratio, investors should focus
on working capital to sales (considering high gestation period of projects), debt to
equity, operating

margins and return

on

capital

employed ratios.

Also,

considering the huge amount of funding required for timely executing of projects,
investors should also keep a check of the possible dilution in equity going forward.
Valuations: We believe that 'Price to earnings (P/E) ratio', is an appropriate metric
for valuing construction companies. Besides, investors can also use 'Price to sales
ratio (P/S) ratio' for valuation purpose. As we have explained earlier that order book
should not be the sole criteria for looking at construction stocks, one should refrain
from using some of the frivolous parameters like 'price to order book'.

HISTORY OF INDIAN CONSTRUTION INDUSTRY

30

The period from 1950 to mid 60s witnessed the government playing an active role in
the development of these services and most of construction activities during this
period were carried out by state owned enterprises and supported by government
departments. In the first five-year plan, construction of civil works was allotted
nearly 50 per cent of the total capital outlay.
The first professional consultancy company, National Industrial Development
Corporation (NIDC), was set up in the public sector in 1954. Subsequently, many
architectural, design engineering and construction companies were set up in the
public sector (Indian Railways Construction Limited (IRCON), National Buildings
Construction Corporation (NBCC), Rail India Transportation and Engineering
Services (RITES), Engineers India Limited (EIL), etc.) and private sector (M N
Dastur and Co., Hindustan Construction Company (HCC), Ansals, etc.).
In India Construction has accounted for around 40 per cent of the development
investment during the past 50 years. Around 16 per cent of the nation's working
population depends on construction for its livelihood. The Indian construction
industry employs over 30 million people and creates assets worth over 200 billion.
It contributes more than 5 per cent to the nation's GDP and 78 per cent to the
gross capital formation. Total capital expenditure of state and central govt. will be
touching 8,021 billion in 2011-12 from 1,436 billion (1999-2000).
The share of the Indian construction sector in total gross capital formation (GCF)
came down from 60 per cent in 1970-71 to 34 per cent in 1990-91. Thereafter, it
increased to 48 per cent in 1993-94 and stood at 44 per cent in 1999-2000. In the 21
st century, there has been an increase in the share of the construction sector in GDP
and capital formation.
GDP from Construction at factor cost (at current prices) increased to
1,745.71 billion (12.02% of the total GDP ) in 2004-05 from 1,162.38 billion
(10.39% of the total GDP) in 2000-01.
The main reason for this is the increasing emphasis on involving the private sector
infrastructure development through public-private partnerships and mechanisms

31

like build-operate-transfer (BOT), private sector investment has not reached the
expected levels.
The Indian construction industry comprises 200 firms in the corporate sector. In
addition to these firms, there are about 120,000 class A contractors registered with
various government construction bodies. There are thousands of small contractors,
which compete for small jobs or work as sub-contractors of prime or other
contractors. Total sales of construction industry have reached 428854 million in
2004 05 from 214519 million in 2000-01, almost 20% of which is a large contract
for Benson & Hedges.

32

COMPANY ANALYSIS
LARSEN AND TOURBO
COMPANY PROFILE
L&T Technology Services is a Strategic Business Unit of Larsen & Toubro, a USD
13.5 billion- Indian multinational engineering, technology, manufacturing and
construction conglomerate.

We are backed by 75 years of engineering excellence of our parent company. Our

corporate heritage has given us many inherent advantages that we translate into tangible
benefits for our clients.

We are the Global Delivery Partners for engineering services

1.
2.
3.
4.

With deep capability across Complete Engineering Lifecycle

Listed 9th among the world's Most Innovative Companies by Forbes
Ranked 4th by Newsweek in the list of Greenest Industrial Companies
Rated in the Leadership zone by Zinnov for the second year in a row in the Industrial
Automation segment amongst the top Engineering Service Providers

Service Offerings:
Our end-to-end service offerings include product design, analysis, prototyping &
testing, embedded system design, manufacturing engineering, plant & construction
engineering, asset information management and engineering process support using
cutting-edge CAD / CAM / CAE technology in various domains.

Innovative element at L&T Technology Services has led to our successful partnership
with clients to co author 70 patents in the engineering space.
Value Proposition

33

Backed by 75 years of engineering excellence, L&T Technology Services

delivers strong engineering pedigree that helps us engage very closely with our
customers to provide end to end solutions spanning all stages of a product lifecycle
providing:

Global footprint in US, Europe and Asia, including designated consultant in each of

these geographies.
Flexible Operating Models.
Ability to engage with customers in large and critical engineering programs.

HISTORY
The evolution of L&T into the country's largest engineering and construction
organization is among the most remarkable success stories in Indian industry.
L&T was founded in Bombay (Mumbai) in 1938 by two Danish engineers,
Henning Holck-Larsen and Soren Kristian Toubro. Both of them were strongly
committed to developing India's engineering capabilities to meet the demands of
industry.
Beginning with the import of machinery from Europe, L&T rapidly took on
engineering and construction assignments of increasing sophistication. Today, the
company sets global engineering benchmarks in terms of scale and complexity.

EARLY DAYS
Henning Holck-Larsen and Soren Kristian Toubro, school-mates in Denmark,
would not have dreamt, as they were learning about India in history classes that they
would, one day, create history in that land.
In 1938, the two friends decided to forgo the comforts of working in Europe,
and started their own operation in India. All they had was a dream. And the courage
to dare their first office in Mumbai (Bombay) was so small that only one of the
partners could use the office at a time!

34

In the early years, they represented Danish manufacturers of dairy

equipment for a modest retainer. But with the start of the Second World War in 1939,
imports were restricted, compelling them to start a small work-shop to undertake jobs
and provide service facilities.
Germany's invasion of Denmark in 1940 stopped supplies of Danish
products. This crisis forced the partners to stand on their own feet and innovate. They
started manufacturing dairy equipment indigenously. These products proved to be a
success, and L&T came to be recognised as a reliable fabricator with high standards.
The war-time need to repair and refit ships offered L&T an
opportunity, and led to the formation of a new company, Hilda Ltd., to handle these
operations. L&T also started two repair and fabrication shops - the Company had
begun to expand.
Again, the sudden internment of German engineers (because of the
War) who were to put up a soda ash plant for the Tatas, gave L&T a chance to enter
the field of installation - an area where their capability became well respected.

THE JOURNEY
In 1944, ECC was incorporated. Around then, L&T decided to build a portfolio
of foreign collaborations. By 1945, the Company represented British manufacturers
of equipment used to manufacture products such as hydrogenated oils, biscuits, soaps
and glass.
In 1945, L&T signed an agreement with Caterpillar Tractor Company, USA, for
marketing earthmoving equipment. At the end of the war, large numbers of warsurplus Caterpillar equipment were available at attractive prices, but the finances
required were beyond the capacity of the partners. This prompted them to raise
additional equity capital, and on 7th February 1946, Larsen & Toubro Private
Limited was born.

35

Independence and the subsequent demand for technology and expertise offered L&T
the opportunity to consolidate and expand. Offices were set up in Kolkata (Calcutta),
Chennai (Madras) and New Delhi. In 1948, fifty-five acres of undeveloped marsh
and jungle was acquired in Powai. Today, Powai stands as a tribute to the vision of
the men who transformed this uninhabitable swamp into a manufacturing landmark.

PUBLIC LIMITED COMPANY

In December 1950, L&T became a Public Company with a paid-up capital of
Rs.2 million. The sales turnover in that year was Rs.10.9 million.
Prestigious orders executed by the Company during this period included the
Amul Dairy at Anand and Blast Furnaces at Rourkela Steel Plant. With the successful
completion of these jobs, L&T emerged as the largest erection contractor in the
country.
In 1956, a major part of the company's Bombay office moved to ICI House in
Ballard Estate. A decade later this imposing grey-stone building was purchased by
L&T, and renamed as L&T House - its Corporate Office.
The sixties saw a significant change at L&T - S. K. Toubro retired from active
management in 1962.The sixties were also a decade of rapid growth for the company,
and witnessed the formation of many new ventures: UTMAL (set up in 1960), Audco
India Limited (1961), Eutectic Welding Alloys (1962) and TENGL (1963).

EXPANDING HORIZONS

By 1964, L&T had widened its capabilities to include some of the best
technologies in the world. In the decade that followed, the company grew rapidly,
and by 1973 had become one of the Top-25 Indian companies.

36

In 1976, Holck-Larsen was awarded the Magsaysay Award for International

Understanding in recognition of his contribution to India's industrial development.
He retired as Chairman in 1978.
In the decades that followed, the company grew into an engineering major
under the guidance of leaders like N. M. Desai, S.R. Subramanian, U. V. Rao, S. D.
Kulkarni and A. M. Naik.
Today, L&T is one of India's biggest and best known industrial organisations
with a reputation for technological excellence, high quality of products and services,
and strong customer orientation. It is also taking steps to grow its international
presence.
For an institution that has grown to legendary proportions, there cannot
and must not be an 'end'. Unlike other stories, the L&T saga continues.....

37