Construction Industry Report A Haven of Opportunities
May 27th 2011
This report captures our view of the construction industry in Nigeria, Analyst essentially from an analysis of the intrinsic long term potentials in the Tosin Oluwakiyesi sector, which we believe is gradually being unlocked. On a company- [email protected] specific level, we focus on Nigeria’s construction giant – Julius Berger Plc,
maintaining an “Accumulate” on the counter. Market Cap: N75.9Bn (US$506Mn) The next in line…? Amongst others, United Arab Emirate (UAE)‟s oil fuelled growth, China‟s industrial/export driven growth and the resultant construction Forward 2011 P/E: 9.9x
boom in these economies over the last decade, are all pointers to the high EV/2011 EBITDA: 2.5x correlation between strong economic growth and the construction industry. Nigeria recently crossed the 7% growth rate, and has innate potential to record 2011 Div Yield: 8.6%
higher growth. This, coupled with healthy revenues from strong oil prices and Sector YTD perf: 5.9% increasing investors‟ interest in bridging the infrastructure deficit brings one question to mind- is Nigeria next in line for a construction boom? Without being Recommendation: JBERGER unrealistically optimistic, we strongly believe the next decade will provide a Rating: Accumulate positive answer to this question. More than ever, the recent emphasis of all stakeholders on infrastructural development is noteworthy – we might just be Share Price: N55.71 close to seeing light at the end of the tunnel. Target price: N64.15 Latent opportunities; waiting to be unlocked: Across board, be it Expected Return: 15% road/bridges, rail, ports, or real estate, the opportunities are enormous but YTD NSE ASI vs Vetiva Construction Index
latent. In real estate for instance, the demand for commercial real estate in (rebased Dec 31) Lagos is ever rising – office rent in Lagos ranks 5th highest globally (according )
to Knight Frank Research). More than 70% of the households are single rooms, Vetiva Construction Sector Index NSE ASI mostly in urban slums and rural areas. In rail transportation, about 77 million tonnes of goods is transported per kilometre of railway per annum - a far cry 1.1 from frontier market average of 52.4 billion tonnes. In almost every yardstick
of measuring infrastructural development, especially in transportation and real 1.0 estate, Nigeria lags most peers in the frontier and emerging markets. The constraints have been overemphasized, we think, thus shadowing the
opportunities waiting to be explored. 0.9
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Risks...not as bad: Nigeria‟s operating environment, no doubt, has major -
Jan
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Feb Mar constraints, both from a policy and politics point of view. Notwithstanding, Dec Nigeria compares quite commendably relative to the big emerging markets – Source: NSE, Vetiva Research India, China and Brazil in some key metrics employed by the World Bank to compare general business environment, for the construction industry. One of Vetiva Capital Management Limited 266B Kofo Abayomi Street such metrics is “dealing with construction permits” in which Nigeria ranks 167th Victoria Island, Lagos th th (out of 183 economies) compared to India (177 ), China (181 ), Russia (182th), according to World Bank 2011 Ease of Doing Business Survey. Though, Tel: +234-1-46175213 the constraints in Nigeria are very inherent, comparatively, we think the risks Fax: +234-1-4617524 Email: [email protected] might have been overstated.
The only pick: Our favourite quoted company in the construction sector is Julius Berger Nigeria Plc, given its sound fundamentals in the industry. Based on our DCF valuation target price of N64.15, we place an Accumulate rating on the stock in view of a potential return of 15% relative to its current price of
N55.71.
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Table of Contents
Summary ...... 1 Nigeria Construction Sector – a dissecting look ...... 2
Physical Infrastructure – key investment case ...... 4 What will drive construction boom? ...... 8 Industry Dynamics ...... 10
Segments ...... 15
Rail ...... 15 Road and Bridges ...... 18 Ports ...... 20
Real Estate ...... 22
Building Materials – Impact on Construction ...... 24 Investment Summary ...... 30
Company Section; Julius Berger Nigeria Plc ...... 31
Appendix ...... 42 Disclosure ...... 45
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Nigeria’s construction sector – A dissecting look
Nigeria‟s construction sector accounts for 1.4% of its GDP (Q3‟10 est.) More important, Construction output has lagged is the fact that despite the growth seen in the construction sector output, (7 year CAGR Crop Production, Crude Oil Production and Whole & Retail of 35%, see figure 1 below), its contribution to total GDP has remained at abysmally low Trade – the 3 biggest drivers levels. In 1981, the construction sector accounted for 5.8% of Nigeria‟s GDP and in the of Nigeria’s GDP since 1981 last three decades, Nigeria‟s total GDP has risen to approximately 495 times its size. On the contrary, construction sector GDP has only grown to 125 times its size in 1981.
Notably, the drivers of Nigeria‟s GDP over the last three decades have remained the same – Agriculture (crop production), Crude oil production and Wholesale & Retail trade.
The construction sector is yet to realise its potentials depsite Nigeria‟s huge deficit in As at Q3’10, Construction infrastructure. Over the last three decades reviewed, crop production, crude oil accounts for 1.4% of Nigeria’s production and wholesale & retail trade have recorded a 27 year CAGR of 28%, 29% Gross Domestic Product (GDP), and 26% respectively, while the construction sector GDP grew at a CAGR 21% over the from 5.8% in 1981 same period. It is evident therefore that Nigeria is way below realising its potential in the construction industry.
Figure 1: Building & Construction GDP and contribution to total GDP
6.0% 400,000 5.1% 7-yr 5.0% CAGR: 300,000 35% 4.0%
3.0% 200,000
2.0%
100,000 1.0%
0 0.0%
1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2009 2010
Building & Construction sector GDP Contribution to total GDP
Source: National Accounts, Vetiva Research
Trailing major oil producers?
Oil wealth has been key to construction sector boom in major oil producing economies. In this regard, similar less diversified oil producers like the United Arab Emirates, Saudi Oil Wealth has been a Arabia, and more diversified oil producers like Russia, saw considerable boom in major driver of construction boom for oil construction at various peaks of oil booms in the last three decades. The crude oil price producing economies over boom of the 1970s for instance, sparked off the growth of UAE‟s construction sector. the last 3 decades Despite low crude oil prices in the 80s, key middle east economies, particularly Saudi Arabia and UAE managed to sustain its infrastructural development.
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Oil fueled economic growth, favourable demograhic fundamentals, growing commercial activities and tourism, have caused considerable construction boom in these countries. Similar to others in the Gulf According to a 2007 report by “Economic Forum”, 15% – 25% of the world‟s Region, UAE has continued construction cranes were operating in the Gulf region with an estimate of over 2,100 to sustain the construction construction projects planned or underway. By 2009, UAE‟s contruction sector has boom originally sparked off grown very rapidly with construction accounting for c.11% of its GDP (almost sustaining in the 70s by discovery and the 10% average in the late 1970s). The recent crude oil price boom (2006-2008) also exploration of crude oil saw UAE record significant boom in infrastructure and hence its construction sector benefitted immensely – the completion of the World‟s tallest building in January 2010 – Burj Khalifa - attests to this.
Figure 2: Some OPEC Members Construction Sector GDPs
20000 8.0%
7.4%
16000 6.0% 6.0% 5.7%
12000 5.0%
4.0%
8000
2.0% 4000 1.4%
0 0.0%
UAE Kuwait Qatar Saudi/Arabia Nigeria
Construction GDP Sector Contribution to total GDP
Source: Country National Accounts, Vetiva Research
As a net importer of crude oil, China‟s construction boom cannot be said traced to oil wealth, but rather, by export driven industrial growth. China‟s construction has been driven by plans for urban revitilisation and new development. Hence the country China’s construction boom was witnessed significant increase in the output of its construction industry, especially in the fueled by export-led industrial last decade. In the first two decades of its reform era (1978 -1999), construction (as growth percentage of China‟s GDP) grew to 6.6% from 3.8%. Over the last decade however, the growth in China‟s construction output has been very tremendous as it accounted for 13% of its 2010 GDP. While noting that the spike in China‟s construction is rather unsustainable, the emphasis in this case is the sustained commitment, of first the state, and then private sector on infrastructural development. The question is, when will it be the turn of Nigeria - OPEC‟s sixth largest crude oil exporter?
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Light at the end of the tunnel – the next decade story
We see the next decade or two as important to Nigeria‟s infrastructural growth. More than ever, the emphasis on infrastructure deficit is laudable. While noting that the With the rising emphasis and challenges (poor policy and budgetary implementation, lack of transparency in growing interest of government contract procedures and the attendant abandoning of many projects) which stakeholders on bridging mitigated the growth of the construction sector are somehow still inherent, we Nigeria’s infrastructure gap, emphasise the milestones that have been recorded over the years. we believe next decade holds good prospects for One of this is the significant rise in local cement production output (cement imports construction have dropped to about 30% of total consumption in 2010 (from 72% in 2005) and the planned projects still on-going to further increase local production capacity (Dangote
Cement and Lafarge). With a local construction industry that has historically been plagued by high material prices from importation (cement and steel particularly), the boost in cement output is an indicator of “better days ahead” in the construction sector.
Secondly, the fast growing emphasis on PPPs, at least over the last five years, is another case that supports our optimism. For instance, the Lekki Free Trade Zone, Eko Our optimism on the construction is supported by Atlantic City are projects opening up major opportunities for construction activities in increasing involvement of the Nigeria. At least, the thought of an artificial Island would have been unimaginable in private sector and the boost Nigeria a decade ago! Notwithstanding , we admit that the bottlenecks are still inherent, in cement production output but then, the long term – the next decade or so, holds exciting opportunities for the seen over the last few years construction sector in Nigeria. Hence, we emphasise the robust long term potential of the construction sector.
Physical Infrastructure Deficit - Key Investment Case
Nigeria‟s physical infrastructure gap, especially in transportation – road, rail, airports The key investment case for the and sea ports - is the strongest investment case for our optimism of growth in the construction sector remains the construction industry. deficit of physical infrastructure especially in transportation, and Only about 30% of Nigeria‟s 193,200 km total road network is paved, relative to an real estate average of 70% and 58% for frontier and emerging markets respectively. The gap is wider when compared with advance d economies with an average paved road network of c.100%. (see figure 3 below).
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Figure 3: Relative Comparison of Nigeria’s Paved Roads (as % of total road network) to Some Frontier Market Countries, *Emerging Markets (EM) and **Developed Markets (DM) Averages
100%
80%
60%
40%
20%
0%
Source: World Bank Database, Vetiva Research
The deficiency in rail infrastructure is even worse, as Nigeria‟s existing 3,528km rail network is grossly insufficent to cater for the rising need for mass transit of people and goods, given its large population (about 150 million; annual growth rate c.2.5%) estimated to be growing at an annual rate of c.2.5%. Apart from this, the design of the Compared with frontier markets average of 52.4 billion tonnes rail network (narrow gauge), quite obsolete thus limiting the capacity and type of trains only 77 million tonnes of goods that can be used on the rails. According to the Federal Ministry of Transport, the rail (per km) are transported by rail transport sector recorded the highest volume of freight (2.4 million tonnes) in 1977 in Nigeria annually even as passenger numbers reached its highest of 15.5 million in 1984. However, from the World Bank‟s latest yearly data, volume of freight transported through rail in Nigeria is about 77 million tonnes per kilometre, while passengers conveyed stood at 174 million passengers per kilometre. These figures rank quite low in comparison to peer countries like South Africa and Egypt (see figure 4 below) similar frontier market like Argentina, Ukraine, Romania and Kazakhstan; and extremely incomparable to bigger emerging markets like China, India and Brazil.
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Figure 4: Nigeria’s rail transport (total network and passenger/freight transported by rail) to African peers Vs Frontier, Emerging and Developed Markets Averages
120000 30000
106,014 25000 90000 20000
60000 52,409 15000 40,830 36,790 10000 12,714 30000 13,865 18,526 12,714 10,804 5000 4,188 0 174 77 0 Nigeria South Africa Egypt FM average EM average Developed ex BRIC Mkt. Avr. ex US Passengers Carried (mill. passenger/km) (LHS) Goods Transported (mill. tons/km) (LHS)
Total Route (Km) (RHS)
Figure 5: Nigeria’s rail transport (total network and passenger/freight transported by rail) to African peers vis-à-vis Frontier, Emerging and Developed Markets
Averages
2500000
2000000
1500000
1000000
500000
174 77 0
Nigeria Brazil Russia India China South BRICS Africa average
Passengers Carried (mill. passenger/km) Goods Transported (mill. tons/km)
Source: World Bank Database, Vetiva Research
Whilst noting the improvement made in airport infrastructure over the last 10 years – Despite the investment in airports in the last decade specifically the construction of the Nnamdi Azikwe Abuja Airport and Lagos Muritala (MM2, for instance), Nigeria’s Muhammed Airport Terminal 2, airport infrastructure – in terms of numbers, quality of airport capacity as measured infrastructure and even capacity (using airside and landside constraints) cannot rank by passenger traffic ranks low pari passu with comparable African Countries – Egypt and South Africa especially. to South Africa and Egypt
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According to the International C ivil Aviation Organisation (ICAO), the air-side of an airport comprise runways, taxiways, gates and parking positions. The number of aircraft movements (departures/arrivals) per unit of time typically determines the air-side capacity of an airport, amongst other factors such aircraft mix and weather. The land- side of an airport comprise terminals and all the facilities used by passengers and cargo Nigeria has 4 international shippers, including security, immigration and custom facilities as well as access to roads airports compared to South and railways, parking space and storage facilities. Land-side capacity is measured in Africa which has 3; However, terms of number of passenger per year or the maximum number of passengers per day. annual passenger traffic of For instance, South Africa has fewer international airports than Nigeria (3 as against 4), Johannesburg airport alone however the combined capacity, based on runway length, of the three airports outweighs the total for Nigeria’s 4 international significantly outweigh Nigeria‟s four international airports (see figure 6 below). Due to airports their higher passenger handling capacities, South Africa‟s Johannerburg airport and Egypt‟s Cairo airport had annual passenger traffic of about 16 million and 14 million (based on 2009 figures) respectively compared to combined annual passenger traffic of about 10.2 million for Nigeria‟s four international airports.
Figure 6: Comparison of Nigeria’s Airport Infrastructure Capacity by Passenger Traffic, Length of Runway, Freight and Registered Carriers Departures
18 40 800 180
35.07 157 640 17 30 135
29.48 480
90 16 20 320 58 45 15 10 160 10.25 18 0 0 14 - South Africa Nigeria Egypt South Africa Nigeria Egypt Freight (mill. ton/km)-LHS total length of runway (km) - LHS total passenger traffic (million) - RHS Registered Carriers departures ('000)-RHS
Source: World Bank Database, Vetiva Research Having highlighted the deficiencies in few physical infrastructure – roads, rail, airports The growing popularity of sub- and ports, we note that more attention is being given to proferring solutions to bridge national bond issuance, the gap. From the recent relaunch of the power sector reform, growing popularity of amongst other means to borrowing (among sub-nationals) as a means to finance infrastructural shortages, the address the problem of rising acceptance of Public-Private Partnership, there seem to be a renewed infrastructure deficit signify commitment to addressing key infrastructureal challenges. Against this backdrop, we long term value generation for believe the construction sector is positioned, on a long term basis, to benefit immensely the construction industry from the anticipated rise in infrastructure spend.
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What will drive construction boom?
Strong Growth and Economic Diversification: Nigeria has been growing at a an average of 7.4%, over the last 2 years, owing to strong agricultural output despite the chronic infrastructure problems affecting manufarturing and other real sector. Various Nigeria’s growth rate which developmental institutions (IMF and World Bank for instance) have forescast growth of crossed 7% last year, is at least 7% over the medium term. In our opinion, Nigeria can achieve a higher growth laudable but focus must be on rate if key infrastructural bottlenecks, especially power is removed. In addition, we the country’s inherent potential believe the on-going reforms of the banking sector and interest of the apex bank to achieve higher growths rate; this is key to unlocking the (Central Bank of Nigeria) to encourage lending to the Small and Medium Scale Industry prospects in the construction through de-risking of the value chain of key sectors – particularly Agriculture, will boost sector Nigeria‟s growth. Commercial Agriculture is a key sector that can push Nigeria‟s growth into the double digit region. Mining is also receiving attention lately. For instance, Australian Mines Limited, with due dilligence recently completed, is in the process of acquiring Nigeria Gold Pty Limited. Following the acqusition, which would give the company access to Gold mining rights in Northern Nigeria, we should begin to see some development of the mining industry in the region which, prior to now, has been underexplored. The development of the mining sector also implicitly portend opportunities for the contruction industry. An example like this, in the long term, will set stage for increased economic activities, which will in turn boost demand for commercial and residential real estate and by default, growth of the construction industry.. As observed during the rapid growth phase of Asian countries like China, there is a high correlation between economic growth and boom in construction activities.
Rapid Urbanisation: Nigeria is undoubtedly one of the fastest urbanising countries in
Sub-Saharan Africa. Close to 50% of Nigeria‟s population now live in urban areas, compared to only 20% in 1980, 16% in 1970 and 13% in 1960. The concentration of With Nigeria urbanizing at one of business in few centres have been the key driver of rapid urbanisation in specific cities the fastest rates in SSA (c.50% like Lagos and Port-Harcourt. According to a recent report from UN-Habitat: State of now live in urban areas vs. 20% in 1980), the constructions sector African Cities, Lagos State‟s population is expected to reach 12.4 million by 2015, will no doubt benefit from this overtaking Cairo – the current most populated city in Africa. Population explosion in rapid urbanisation urban cities have therefore led to the fast growth and urbanisation of previous neighbouring rural communities. In the case of Lagos State, the influx of population has caused increasing urbanisation in neighbouring towns of Ogun State. Whilst the threats of over-urbanisation are imminent (population growing faster than urban economies), concrete steps are already being taken to provide adequate infrastruture. For instance, the Lagos State Light Rail, Eko Atlantic City and Lekki Free Trade Zone Projects are some of the key infrastructural projects of the State Government to address population With a median age of 19 years and 55% in the working class explosion and rapid urbanisation. age, there’s an inherent opportunity for real estate Demographics and housing demand: With a median age of 19 years and construction given the housing approximately 55% in working age bracket (15 – 64 years), Nigeria‟s population need of this age group distribution portends strong potential for continuing growth in housing demand despite the high rate of unemployment (estimated at c.19%) which reduces effective demand. It is obvious however that the long term opportunity present in real estate construction, can only be realised on the back of strong economic growth and employment generation.
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Relatively strong commodity prices in the long term: Notwithstanding the gradual de-emphasis of oil and the need to shift to alternative fuels, we opine that oil prices would still remain strong, even in the long term. Biofuels, algae and other alternatives If properly managed, proposed for crude oil are far from being produced in such commercial quantities that Nigeria’s infrastructure can would meet the world‟s growing energy needs. Moreover, the shift to biofuels for benefit immensely from high instance may potentially result in high food inflation. This, in addition to the fact that crude oil price which we more newly industrialised economies (particularly in Asia, Eastern Europe, and Africa) believe will remain would emerge, underpins our view, that oil prices will stabilise around c.100/barrel, sustainably strong into the though short term fluctuations and volatilities are inevitable. It therefore implies that long term, despite short term volatilities Nigeria, as the eighth largest exporter of crude oil globally, is positioned to benefit from strong oil revenues if its internal challenges can be resolved. This further strengthens our view of a potential boom in Nigeria‟s construction industry, as a result strong oil revenues.
Increasing Capacity in Cement Production: A major militating factor to significant growth in construction activities in Nigeria, has historically been the local shortage of building materials, especially cement and steel. Nigeria‟s per capita cement consumption The significant boom in averaged 83kg between 2006 and 2009 and prior to 2009, imports accounted for the production capacities seen in the larger proportion of cement consumed in Nigeria. It should be noted that self-sufficiency cement sector over the last four in cement production is a major step for construction boom. Countries like China, Saudi years support a potential boost in
Arabia,etc, that have witnessed significant boom in construction, are net exporters of construction activities cement. However, over the last four years local production of cement has risen significantly, thus, now accounting for about 70% of consumption. With the additional plants currently under construction in the sector, Nigeria may likely approach self- sufficiency in cement production in the medium term (within the next 2 years).
Public-Private Partnerships (PPP): Across the globe, Public-Private Partnerships
(PPP) are becoming increasingly popular in delivering physical and social infrastructure to people. Despite the need for more aggressive public-participation in the delivery of basic infrastructure in Nigeria, we note that there has been a rise in the number of PPP- driven infrastructural projects over the last 20 years. Based on data obtained from The idea of PPP driven infrastructure projects is Private Participation in Infrastructure (the World Bank arm on PPPs), up to 51 projects becoming more acceptable in within the 20 years between 1990 and 2009, were undertaken through PPPs in Nigeria. Nigeria, and this will encourage Most of the projects occurred within the last five years, with the transport sector being increase in construction activities the major beneficiary, as close to half – 24 projects – were reported for the sector over the next decade between 2005 and 2008. In terms of actual value, annual investments rose to $3.1 billion from merely $22.0 million as at 1997 and zero as at 1990, adding up to $23.6 billion from 1990 to 2009. Based on actual value, investments in the Telecoms sector was the highest, totalling $18.4 billion and accounting for 78% of the total investments within the period.
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Figure 7: Number of PPI Projects by sector (1990 - 2009) Figure 8: Investment Value (US$ Billion) of PPI Projects in Nigeria by sector (1990 - 2009)
9 2.2 3.0
24
51 23.6 18.4
18
0 0
Water and Telecoms Transport Energy Total Water and Telecoms Transport Energy Total Sewage Sewage
Figure 9: Percentage distribution of number of PPI Figure 10: Percentage distribution of PPI Projects by Projects by number (1990 – 2009) Investment Value (1990 – 2009)
Energy, Energy,
18% 9%
Telecoms, Transport 35% , 13%
Telecoms, Transport, 78% 47%
Source: World Bank PPI database, Vetiva Research
Industry Dynamics
Characteristics
From 1982 – 2009, the High Correlation with budgetary CAPEX: Due to minimal private sector participation, construction section has the construction industry is highly correlated with government‟s budgetary CAPEX. Based on a correlation coefficient historical data between 1982 and 2006, a regression of the construction sector GDP on of 0.92 to government government‟s total capital expenditure (federal and states) gave a correlation coefficient of CAPEX 0.92.
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Figure 11: Construction Sector GDP vs. Total Govt. CAPEX (1982 – 2009)
3000
2500
2000
1500
1000
500
0
1982 1985 1988 1991 1994 1997 2000 2003 2006 2009
Construction Sector GDP Government CAPEX
Source: CBN Statistical Bulletin, Vetiva Research
Huge Operating leverage and low margins : Globally the construction industry is characterised by heavy fixed asset base, hence high operating leverage, depreciation expense and low profit margins.
Construction firms are highly Specialisation: Given the varied types of construction projects, construction firms are specialised, and are broadly usually specialised and mostly function only in areas of core strengths, which are divided into three classes: determined by their human capacity and equipments. On a broad scale, construction Building Construction, projects can be divided into three: Building, Heavy/Civil Construction and Industrial Heavy/Civil Construction and Construction. In Nigeria, very few construction firms operate in all the three classes. In Industrial Construction our view, this is a major reason for Julius Berger‟s dominance in the industry as it has the capacity (equipments and human) and expertise to operate across these three broad classes of construction projects.
Earnings seasonality: Construction activities are usually stalled during rainy seasons; hence the earnings pattern of the construction companies are seasonal. Another form of Earnings in the construction seasonality in the construction industry also relates to the timing of release of budgetary industry is affected by seasonal allocation for capital expenditure. Based on weather patterns, construction companies in rain patterns Nigeria typically report higher earnings in the first and fourth quarters of the year.
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Interplay of Professionals: From the first step in the construction process which is designing, to the final stage of building, construction requires indepth human multi- tasking and hence involve the interaction of many professionals – engineers, architects, quantity surveyors, lawyers and even financial advisors.
Players
The Nigerian construction industry is dominated by international construction firms, although a number of smaller local companies are emerging. Julius Berger Nigeria Plc remains the market leader, as it controls a large chunk of public sector construction.
With the entrant of Chinese Construction giants however, the dominance of Julius Berger There are many construction firms in Nigeria, but only few faces significant threat in the long term. As an example, China Civil Engineering operate on large scale; examples Construction Company was appointed by the Lagos State Government as the contractor of these include Julius Berger, for the Lagos Light Rail Project. The firm was also awarded the rehabilitation of Lagos- Stabilini Visinoni, Costain and Jebba rail track by the federal government. The growing popularity of PPPs also means China Civil Engineering more international construction firms are likely to come into the Nigerian market.
Other medium-size (based on scale of operation) constructions firms in Nigeria are as follows Costain W.A Plc, PW Nigeria, Cappa & D‟Alberto, Stabilini Visinoni, Bi-Courtney Limited, Lekki Concession Company, Reynolds Construction Company Ltd and Setraco
Nigeria Limited, Gerrawa Global Engineering Limited, Piccolo-Brunelli Eng. Ltd, Philco Nigeria Ltd, Kopek Construction, Niger Construction Ltd, , Enerco Limited, Borini Prono and Company Limited, Arab Contractors Limited, Triacta Limited, CGC Nigeria Limited, Standard Construction Limited, Dantata and Sawoe Construction Company Nig, Ltd, and Mother Cat Limited.
Challenges
Similar to other Sub Saharan A frica (SSA) countries, we identify financing, dearth of technical expertise and corrupt governments/poor implementation as key challenges mitigating the development of infratructure and hence the growth of the construction sector in Nigeria.
Most construction firms rely on Shortage of Technical Expertise : The construction industry generally involves the interplay of different professionals – engineers, architects and quantity surveyors. Most expatriates for core functions as locals are largely unskilled construction firms in Nigeria, especially the big names like Julius Berger, China State Engineering, PW Nigeria rely on expatraiates in these areas as local counterparts are mostly unskilled and inexperienced. From the perspective of financing and deal structuring, most local financial institutions do not have the required expertise to structure infrastructural projects. There are few specialised project finance and trade finance institutions and the requisite skills to appropriately appraise and structure the project finance deals and price the associate risks accordingly are not locally sufficient.
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Business Environment – Regulatory and Policy: Based on various World Bank metrics on the receptiveness of the business environment to investments, Nigeria still lags. For instance, Nigeria‟s days of dealing with construction permit is 350, higher than sub-Saharan average of 268 (see figure 12 next page) . The World Bank 2011 ranking th on “Ease of Doing Business” indicates that Nigeria now ranks 167 (out of 183 countries examined) in “Dealing with Construction Permits”, and 97th in “Enforcing Contracts”. For the purpose of examining the competitiveness of Nigeria‟s business environment for construction companies, we have limited our analysis to three out of World Bank‟s nine metrics, to capture a country‟s ease of doing business. These three are; “dealing with cosntruction permits”, “enforcing contracts” and “protecting investors” (see figure 13 Notwithstanding various also). While admitting the regulatory and policy bottlenecks in Nigeria, we note that regulatory bottlenecks, Nigeria ranks quite better than bigger emerging markets like India and China in Nigeria ranks comparatively “Protecting Investors” and more importantly observed from our analysis, is that Nigeria well in a number of metrics still ranks quite better than Brazil, Russia, India and China (BRIC) in at least two of the employed by the World Bank to measure business three meaures examined. environment competitiveness
Notwithstanding, the complexity of Nigeria‟s business environment, especially with regards to dealing with construction permits, the bottlenecks in Land acqusition, and general laxity in contract enforcements are still key regulatory impediments to infrastructural development vis-à-vis the growth of the construction industry. In addition, the unwillingness on the part of the populace to pay for infrastructure projects and the resultan t legal tussles that PPP concessionaires may likely face (for instance the on-going case of Lekki residents against Lekki Concession Company and the Lagos State government) are considerations that tend to limit participation of the private sector in infrastruture development.
Figure 12: Comparison of Sub-Saharan African Countries in Business Environment
Attractiveness for Construction Companies
Dealing with construction permit (days) 700 628 601 600
500 426 410 381 400 350 328 322 321 308 271 283 277 300 255 255 254266 239 240249 265 212 214 210220 215 213 210 220 195 201 201 178 184 181 167 169164 167 163 174 200 146 139 144 143 128 125 120 107 93 84 100
0
Mali
Chad
Benin
Sudan
Ghana
Liberia
Malawi
Angola
Algeria Nigeria Tunisia
Uganda
Ethiopia
Namibia
Morocco
Botswana
Swaziland
Mauritania
Cape Verde Cape
Congo, Rep. Congo,
Sierra Leone Sierra Gambia, The Gambia,
d'Ivoire Cote
Saharan Africa Saharan
- Equatorial Guinea Equatorial
Rep.Dem. Congo, Sub
Sources: World Bank Africa Development Indicators Database, Vetiva Research
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Figure 13: Ranking of Emerging and Frontier Markets in business environment competitiveness relative to Nigeria
Dealing with construction Enforcing Protecting Country permit Contracts Investors Group 1 - better than Nigeria in at least 2 of the 3 parameters ranked Thailand 12 25 12
Mexico 22 81 44
Estonia 24 59 50
Colombia 32 150 5 Mauritius 39 61 12
South Africa 52 85 10 Lithuania 59 17 93 Indonesia 60 153 44
Czech Republic 76 78 93 Hungary 86 22 120
Pakistan 98 155 28 Malaysia 108 59 4
Croatia 132 47 132 Turkey 137 26 59 Kazasthan 147 36 44
Nigeria 167 97 59 Group 2 - worse than Nigeria in at least 2 out of the 3 parameters ranked
Egypt 154 143 74 Kenya 35 125 93
Brazil 112 98 74 India 177 182 44 China 181 93 93
Russia 182 48 93 Argentina 168 45 109
Ukraine 179 109 43 Jordan 92 129 120
Phillipines 167 97 59
Sources: World Bank Database, Vetiva Research
Financing: Given the huge capital requirement for infrastructural development, financing has consistently been a major bottleneck. It is important to note that there are conflicting estimates as to the required amount needed to bridge Nigeria‟s infrastructural deficit. However, according to recent statements in the media by Nigeria‟s minister of finance – Mr. Olusegun Aganga – Nigeria would need close to $100 billion dollars to close the gap in infrastructural development. Until recently, Nigeria did not have an international bond rating against which sub-nationals and corporates seeking foreign debt can be benchmarked.
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Furthermore, Nigeria, like most SSA economies, has low sovereign debt ratings Accessing long term foreign (typically below the BB rating) implying that foreign investors have higher risk capital to support perceptions of the economy. Some of these risks which largely stem from the political infrastructure development is and regulatory uncertainties (relating to policy continuation) are further exacerbated by still a major hurdle long payback periods for infratructural projects. Hence, investors are typically worried about re-couping investments within stipulated timeframes. Therefore, it is difficult to access foreign capital for long term investments as it is required, for infrastructural financing. It has also been observed that local financial markets do not have the capacity to finance infrastructure projects, both from the perspective of actual funding and technical expertise. This observation is similar across Sub-Saharan African countries, with South Africa being an exception as its domestic banks, to some extent, have been able to consistently provide local currency financing for infrastructural projects.
Misappropriation and poor policy implementation: Central to most of the Most of the challenges facing challenges already identified, are corruption and poor implementation of projects. Even infrastructural development vis- à-vis construction firms are in PPPs, the Government needs to play a major role for the PPPs to be successful. Mechanisms that will enhance and guarantee transparency in the Bid and Tender hinged on lack of transparency, misappropriation and poor policy process, procurement specifications and final selection of contractors are deemed not to implementation be in place or enforced. Governments, embarking on open public hearings for major contracts and appointmentof independent agencies to carry out appraisals on the projects, would be major steps to correctly address this problem.
Segments
Rail
Current State of Rail Transport: As earlier stated, Nigeria‟s rail network consists about 3,500 km, narrow gauge (1.067m) single track lines running from Lagos to Kano, Port-Harcourt to Maiduguri and the uncompleted 349km of standard gauge from Itakpe Transportation by rail to Warri through Ajaokuta. Since rail transportation is generally in a dilapidated stateand constitute less than 1% of land most of the available wagons and locomotives are defective and in poor conditions, this transportation in Nigeria, but over the last four years it mode of transportation currently accounts for less than 1% of the land transportation in seems federal government is the country, thus, putting the roads under significant pressure from heavy haulage. In taking good steps to develop the last four years however, the Government appears to have taken major steps in rail transport developing rail transportation by awarding some contracts in rail construction (see figure 14 below). We note however that some of these projects may not have commenced, hence the proposed completion date may be extended beyond that indicated
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Figure 14: Summary of projects/c ontracts already awarded in rail construction Value Proposed Time Rail Projects* ( Mn USD) Company of Completion China Civil Engineering Abuja Light Rail 102 Construction Corporation 2013 China Civil Engineering Abuja-Kaduna Railway 850 Construction Corporation n/a
Jebba-Kano rail line rehabilitation 79 Costain Engineering n/a
China Civil Engineering Lagos Light Rail 1130 Construction Corporation 2013 Sources: Business Monitor, Vetiva Research
* Projects may have also been included in summary of federal government planned investment on next page
Outlook: Based on federal government‟s national medium term national development towards NV:2020, there are considerable opportunities in rail transportation. In line with this, the national planning commission has itemised the following as key targets to be achieved in rail transportation; In the medium term, close to 10 rail projects have been
Total rehabilitation of 3,500 km of the existing narrow gauge rail itemised by the federal Completion of the Ajaokuta – Warri standard gauge line government for completion Increasing the tonnage of freight transported through rail to 1 million metric tonnes from the current volume of 50,000 tonne Transportation of 4 million passengers per year To achieve 500,000 daily trips via mass transit Introduction of private sector participation
Completion of rail works that have reached 50% of completion as at December 2009 Commencement of the Abuja/Idu to Kaduna standard gauge rail line, coastal rail line (Niger Delta Rail line) Calabar to Benin and East-West Rail line Aboekuta to Benin
Linkage of Abuja through rail to the seaports of Lagos, Warri and Port-Harcourt
Figure 15 below summarises the key projects indicated in the targets and the amount allocated for the projects in the medium term plan.
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Figure 15: Federal Government planned investment in rail construction Investment Value (N'Billion)
Projects 2011 2012 2013
Rehabilitation of existing narrow gauge from Lagos to Kano 33.85 39.47 39.68
Completion of the 22km standard gauge from Ovu to Warri 0.94 1.09 1.14
Construction of 187.15km standard gauge from Abuja to Kaduna 15.05 17.49 18.31
Construction of 6 stations between Itakpe and Warri 140.82 163.65 171.26
Construction of modern coastal line from Benin to Calabar across 6 Niger Delta States 55.58 64.59 67.59
Construction of Abuja light rail project 19.62 22.81 23.86 Sources: National Planning Commission medium term plan, Vetiva Research
Whilst lauding the targets of the National Development Plan as regards rail transport,
Nigeria‟s poor history of implementation warrants a cautious perspective towards the We laud the targets of the achievement of the plan. Based on the average rate of budgetary implementation on the national development plan, capital expenditure (CAPEX) side, just about 42% for 2009 and 2010, we do not see but remain cautious on its more than 40% - 50% of the stated targets for revamping the rail sector (itemised investment outlook given the above) being achieved under the current administration in the medium term. We believe history of poor therefore, that focus for rail sector development in Nigeria should be on public private implementation partnerships.
Also, sub-nationals have a more pivotal position to play in rail infrastructure development. For instance Lagos State, through a PPP scheme with China Civil Engineering Construction as the contractor, has begun the construction of the Lagos Light Rail. The Light Rail Project consists of three basic projects – the Iddo/Ijoko line, At the sub-national level, Agbado/Marina line and Okokomaiko/Marina line. The Iddo/ljoko line would be 45% Lagos State has been has financed by Federal Government, 40% financed by Lagos State Government and 15% been prominent in financed by Ogun State Government. infrastructure development, especially with the Lagos Light The other two lines (both stations and infrastructure), being funded by the Lagos State Rail project which sparked off
Government, is estimated to cost N170 billion ($1.13 bn) but the operation and last year maintenance of the rail line would be run by a concessionaire for a period of 25 to 30 years. According to media sources, China Civil Engineering Construction Company commenced works on the Okokomaiko/Marina line in late 2010. The rail line is expected to be completed by 2012.
Based on the National Development Plan, the Federal Government‟s proposed Based on federal investments in the Transportation sector over the medium term (2011-2013) is government’s medium term estimated at N2.2 trillion ($14.7 billion). However, considering the increasing role of development plan, state governments in infrastructural development, it is difficut to forecast the total proposed investment in Transportation in the next 3 expected investments in rail construction given the unavailabilty of the development years is about $14.7 billion plans of most state governments in this regard.
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Roads and Bridges
Current state: Nigeria currently has a total road network of 193,200 kilometres which comprise 34,123km federal roads; 30,500km state roads and 129,577km local Close to 70% of Nigerian road government roads. Therefore, in percentage distribution, local and state government are unpaved; over 80% of the 30% paved portion are federal roads account for 82% of Nigeria‟s total road network, further supporting our assertion roads that sub-national governments (local and state) have a major role to play in road infrastructure development. In our view, federal and state government roads constitute the most parts of the 30% paved portion (58,260km) of Nigeria‟s total road network. (Figure 16 below shows some ongoing projects in road and bridges construction across
Nigeria)
Figure 16: Federal Government ongoing investment in road construction Value Time for Projects (Ongoing) (million USD) Company Completion
River Niger Bridge at Onitsha 5 Setraco Nigeria Limited 2009 Rehabilitation of Akungba-Ikare-Omuo-Kabba Road in Ondo and Ekiti States 10 Philco Nigeria Limited 2011
Rehabilitation of Ifon-Uzebba-Irukpen -Road/road to Ose Bridge, Edo State 13 Piccolo-Brunelli Eng. Ltd 2011 Rehabilitation of Nguru-Gashua-Bayamari Road, Yobe State 15 Gerawa Global Engineering Ltd 2011
Bullettine Construction Rehabilitation of Oba-Nnewi-Okigwe road 17 Company Ltd 2011
Rehabilitation of the Shagamu-Ajebandele -Ore- Boriri Prono and Company Benin road section 2, Ogun State 17 Nigeria Ltd 2011
Rehabilitation of the Aba-Owerri Road in Abia/Imo states 18 Niger Construction Ltd 2010
Rehabilitation of Abakilik-Afikpo Road (Ebonyi Bulletine Construction State) 20 Company Ltd 2011
Rehabilitation of the Kano-Katsina-Kaura Namoda-Jibia Road section, Zamfara state 20 Mothercat Limited 2011 Rehabilitation of Abakaliki Afikpor Road section 2, Enugu State 23 CCECC Nigeria Limited 2011
Rehabilitation of Efon Alaaye-Erinmo -Iwaraja, Ekiti State 23 Kopek Construction 2012
Rehabilitation of Mararaba Pambeguwa - Saminaka-Jos Road section 2 (Kaduna/Plateau States) 24 PW Nigeria Limited 2011 Sources: Business Monitor, Vetiva Research
Outlook: There is a huge opportunity in road infrastructure development in Nigeria, given that approximately 70% total road network is unpaved and perhaps unmotorable. In Nigeria, road development has historically been the Government‟s responsibility.
More recently however, the private sector through PPPs is beginning to participate in road infrastructure, albeit at a very low rate.
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The Lekki Concession Company (LCC) /Lagos State government PPP for the Lekki-Epe Expressway (still under construction) is the flagship example of Public- Private Partnership in road infrastructure in Nigeria. The project, estimated to cost US$300 million is the flagship PPP of the Lagos State Government, and includes the upgrading of The future of road construction the first 49.4 km kilometres of the Lekki-Epe Expressway and the development of the gradually tilts more to PPPs; first 20 km of the coastal road with an option to construct a southern by-pass. According the Lekki-Epe expressway- to the arrangement, LCC will build and operate the road for 30 years before transferring flagship PPP road project in to the State Government. Recent protests by native residents in the area has however Nigeria is an example stalled the charging of toll fees by the concessionaire.
Not so much has been achieved at the Federal Government level in terms PPPs in road infrastructure as its flagship PP P with Bi-Courtney Limited – a local construction company – is yet to commence after close to 3 years. The development of road Not much has been achieved infrastructure on a longer term basis would be highly dependent on budgetary in federal government led implementation, number of effective PPPs and the Government‟s ability to secure long PPPs in road projects; the Lagos – Ibadan to Bi-Courtney term debt for general infrastructural development. is yet to commence appreciably since more than 3 According to the National Devevelopment Plan, it has been estimated that Federal years Government‟s investment in rehabilitation and expansion of Federal Government (Trunk „A‟) roads would at least be N700 billion ($4.7 billion) over the medium term (2010 –
2013). Some of the projects to be covered under this are summarised below; Investment Value Figure 17: Federal Government planned investment in road construction (N'Billion)
Projects (to be funded solely by federal government) 2011 2012 2013
Dualisation of Onitsha – Owerri Road and Onitsha Eastern Bypass 1.64 1.91 1.99
Dualisation of Ibadan-Ilorin road section 1 0.79 0.86 0.99
Dualisation of Abuja-Abaji-Lokoja road n/a n/a n/a
Dualisation of Kano-Maiduguri road n/a n/a n/a
Dualisation of East-West road Warri to Oron via P/Harcourt n/a n/a n/a
Construction of Kano Western Bypass 2.06 2.40 2.51
Construction of Panyam – Bokkos Wamba Road 0.84 0.98 1.03 Sources: National Planning Commission medium term plan
The federal government also has a number of road projects which are proposed to be implemented through PPPs - see figure 18 below, though the actual investment in these projects are unavailable.
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Figure 18: Summary of federal government planned investments in road construction through PPPs Projects Details
Upgrading of existing road by expansion to 8 lanes Lagos-Ibadan Expressway Concession (Lagos-Shagamu) and 6 lanes (Shagamu-Ibadan)
Completion of 1.35km with adjoining roads between Concession of 1.35km Guto-Bagama bridge across River Benue Enugu and Abuja
Completion of 1.75km bridge, 14km road with 3 Construction of 2nd Niger Bridge across River Niger at Onitsha/Asaba flyover bridges and 3 other bridges
Shagamu-Benin, Benin-Asaba, Abuja Kaduna, Lagos- Badagry, Seme Boarder, Kaduna - Kano dual Road Rehabilitation and expansion carriage ways Sources: National Planning Commission, Vetiva Research Ports
Nigerian seaports are owned by the Federal Government through the Nigerian Ports Authority (NPA). There are 13 major ports, 11 oil terminals and 128 jetties with a total annual cargo handling capacity of about 35 million tonnes. Given the problems of inefficiency and the resultant port congestion, the government commenced the reform The PPP model was adopted in decongesting the port, and restructuring of the ports to introduce private sector participation in 2001. In April following the port reform 2006, private operators took over as terminal operators of the sea ports, after a process that commenced in competitive bidding process, with the NPA focusing on its role as the “Landlord”. The 2001 port reforms birth the first major PPP in infrastructural development and currently there are about 19 terminal operators managing Nigerian seaports in partnership with the NPA.
Figure 19: Private Port Operators in Nigeria Company Terminal
APM Terminals Apapa Container Terminal
Apapa Bulk Terminal Apapa, Terminals A&B ENL Consortium Apapa, Terminals C&D Greenview Dev. Nig. Ltd Apapa, Terminal E Josepdam Port Services Ltd TCIP Terminal A
TCI Container Ltd TCIP Terminal B P&C handling Services TCIP Terminal C Five Star Logistics TCIP Roro Terminal APMT Finance Lilypond Cont. Terminal Port &Terminal Operation Port Harcourt Terminal A
Bua Ports and Terminals Port Harcourt Terminal B Ecomarine Calabar New Terminal B Addax logistics Calabar New Terminal C
Asso. Marine Services Warri Old Terminal B Global Infrastructure Warri New Terminal A
Atlas Cement Onne FOT Jetty Julius Berger Warri Terminal A Gulfinger Ltd Koko Terminal
Onne, FOT A, FLT B, Calabar New Terminal A, Warri Intels Nig. Ltd old Terminal A & New B
Sources: FPPPN, Vetiva Research
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According to the World Bank data on infrastructure, Nigerian port infrastructure ranks 3 on a scale of 1 to 7 (1 being the worst ranking and 7 the best). Though Nigeria‟s ranking falls below average, the quality of Nigerian ports can be said to be close to other On a scale of 1 to 7, Nigeria’s emerging market comparables like South Africa, Egypt, India, Brazil, and Argentina (see port infrastructure ranks 3, according to World Bank figure 20 below). While Nigeria‟s ranking prior to the port reforms (launched in 2000) is unavailable, we believe the privatisation of port terminal operations (through PPPs) over the last decade would have contributed to the relative competitiveness in comparison to similar emerging markets (Brazil, India and Argentina).
Figure 20: Ranking of Nigeria’s Port Infrastructure on a scale of 1 (worst) to 7 (best),
to other emerging and developed markets
7 Singapore, 7
6 Switzerland, 6 USA, 6
5 UK,5
South Africa, 4 China, 4 4 Russia, 4 Egypt, 4 Bulgaria, 4
3 India, 3 Argentina, 3 Brazil, 3 Nigeria, 3
2
1
Sources: World Bank, Vetiva Research Outlook:
Based on the medium term development plan, the federal government plans to rehabilitate and construct river ports, jetties and wharfs (in Baro, Lokoja, Oguta, Degema and Yenagoa) by 2013. In addition, the construction of new seaports are also expected in Epe/Lekki Axis, Brass, Bonny and Badagry as well as development of Calabar port to support free trade zone. Figure 21 below lists some of the planned/ongoing projects in ports construction.
Figure 21: Planned investment in port development Value (million Project USD) Company Comment on timeline Construction resumed June
Lokoja Port 15 n/a 2009
Olokola deep water port 1000 COSCO At planning stage since 2008 Dubai Ports Authority Port Complex Lagos n/a and Sifax Group Talks ongoing
Lagos Free Trade Zone Approval obtained for the Port 6000 n/a project
Construction of Degema Planned under FG's medium River Ports 12 n/a term plan for three years
Isiala Ngwa Inland Construction to have begun Container Depot n/a n/a in 2009 Sources: Business Monitor, National Planning Commission, Vetiva Research
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Real Estate
Current State: The real estate sector in Nigeria is largely divided into Residential and non-Residential segments. The Residential segment largely account for the larger chunk The Federal Mortgage Bank, through Primary Mortgage of real estate/housing demand in Nigeria. Institutions, is at the forefront
of housing delivery, with an Residential Segment: According to estimates from the Federal Housing Authority and about N121 billion given out other players in the housing sector, housing deficit has been widely reported to be about as loans since its inception in 16 million units. Since its inception in 1992, the FMBN has approved a total of N121.2 1992 billion mortgage through Primary Mortgage Institutions (PMIs) and Estate Development Loans (EDLs); however only half of the approved loans (N61.6 billion) has been disbursed. Hence a total of 53,518 housing units have been built over the 19 year period from Mortgage backed bonds and Estate Development Loans. With less than 5% of the Therefore, it is evident that the Government‟s involvement in housing delivery through population able to access the Federal Mortgage Bank, is grossly inadequate to meet housing demand, which is mortgage, housing delivery has consistently growing at such a fast pace, causing widening deficit. With a weak supply side, there‟s lagged demand despite the immense opportunity in the residential real estate segment. Beyond the fact that efforts of FMBN housing supply lags demand quite significantly, another key constraint in bridging the huge gaps in housing delivery lies on the demand side, as only a minute portion of Nigeria‟s 150 million people can afford these houses. FMBN and privately owned residential estates are only affordable to individuals in the High and Upper Middle
Income bracket (1Upper Middle: $3,945 - $12,200; High Income: > $12,200 based on World Bank Classification). About 70% of Nigerians live
in single rooms in urban In the same vein, mortgages are only accessible to individuals in this income bracket, slums or rural areas which, based on our estimates is less than 5% of the total population. Hence, the majority (about 95%) of the population which are in the low income bracket still reside in sub-standard houses mostly single rooms in urban slums or thatched houses in the rural areas. Figure 22 below shows the distribution of Nigerian Population by the housing type.
Figure 22: Percentage distribution of households by type of housing units in Nigeria, 2008
Others National Others Urban 0.4% Whole 0.3% Others Rural Building 0.4% 0.8% Flat 15.8% Whole Whole Building Building 27.2% 31.2% Duplex 15.0% Flat Single Single Single 5.8% Flat Room Room Room 2.5% 66.3% 68.1% 65.7% Duplex Duplex 0.3% 0.2%
Source: NBS Statistical Bulletin, Vetiva Research
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Commercial Segment: The demand for commercial real estates (offices, shops, warehouses, hotels) in Nigeria is highly concentrated in commercial cities like Lagos, (South West) and Port Harcourt (South South). Though this segment accounts for the Commercial real estate accounts for less than 5% of less than 20% of real estate demand (our estimate), demand still outpace supply, real estate construction, but especially as available properties are signficantly premium priced. According to Knight with higher demand, available Frank Research, Lagos has the fifth highest office rent (measured US$/sqft/yr) globally properties are significantly as at Q4‟09. In Nigeria, Julius Berger Plc, HFP Engineering and Costain W.A are the premium priced major construction companies with focus in construction of commercial real estate.
Percentage distribution by type of real estate in Nigeria
Industrial, Others, Commercial 0.5% 1.6% , 4.6% 2008
Commercial Residential
Industrial
Others
Residential, 93.3%
Source: NBS Statistical Bulletin, Vetiva Research
Outlook on Residential Real Estate: There are immense opportunities in the residential housing sector. A major constraint to the development of this potential has however being the high interest rates on mortgage and low penetration of mortgage facilities. Recently however (March 2011), the Federal Mortgage Bank (FMBN) announced that plans to increase its capital base to N150 billion within the next the 24 months are underway.
Based on BusinessDay Newspaper reports (March 22, 2011), part of FMBN‟s two year With the planned recapitalisation of the FMBN, plan would subsequently include the injection of N250 billion annually. In addition to the underway over the next 2 planned recapitalisation which would make the FMBN adequately positioned to lend to years, more estate developers estate developers, there was also a change in the fund disbursement policy to lenders. will be positioned to access
The change involves reducing the number of tranches in which monies are released to mortgage loans estate developers to 3 from the previous 4. Estate developers in the new policy dispensation would have access to higher liquidity and would be in a position to complete housing projects at a faster rate.
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Building Materials – Impact on Construction
Cement, aggregates, steel and iron represent the basic materials needed for most construction activities. The construction industry more or less represents the service arm to building materials sector , as the output of the latter forms the input of the former. Therefore, the growth of the building materials sector has a direct implication on the outlook of the construction industry. In Nigeria, a key factor constraining the realisation of the full potential of the construction industry is the dearth of key building materials, particularly cement, steel and iron. We examine each of these key building materials below, with focus on current demand and supply, outlook and expected long term impact on the growth of construction industry.
Cement – Gradual move towards Self-Sufficiency
Although Nigeria is still a net importer of cement, there has been considerable improvement in local supply - production capacity and utilisation. Local production now With the increase in local accounts for at least 70% of cement consumption from about 25% some five years ago, production local production given the rise in local production capacity (to 13.85 million tonnes per annum from 4.25 now accounts for c.70% of million tonnes per annum) over the same period. Even with the phenomenal rise in local total cement consumption, as production, it is important to note that most of the cement plants (perhaps with the against 25% five years ago exception of Dangote Cement‟s Obajana Plant and Lafarge WAPCO‟s Ewekoro plant) are still operating measurably below full capacity. This implies that there is some potential for growth from existing capacities. More exciting, is the fact that new plants (Ibese, Lakatabu, Obajana Line 3), which are expected to become operational later this year, would add about 13.2 million tonnes per annum to existing capacities of 13.85 million tonnes per annum.
Given the expected increase in local cement output, industry players have postulated that Nigeria would become self-sufficent in cement production, and may even become a net-exporter by 2013. Whilst we allude to this postulation in the medium term, we believe that self-sufficiency would be very transient if the construction industry grows at such a rate to realise its full potential. The additional capacities would put Nigeria‟s cement consumption per capita at c.180kg; but still a far cry in comparison to UAE (4,198kg), China (1,055kg), and Saudi Arabia (1,294kg), countries which have witnessed major surge in construction activities over the last two decades.
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Building & Construction GDP (N’Billion) vs Cement Consumption (million tonnes)
600 25
20 450
15
300 10
150 5
0 0 2007 2008 2009 2010E 2011E 2012E
Cement Consumption (million tonnes), RHS Building & Construction GDP (N'Billion), LHS
Source: CBN, Vetiva Research
Aggregates - Market is Fragmented and Underdeveloped
Despite the fact that aggregates also form a major component of concrete, the market for the product is largely fragmented in Nigeria. The big cement producers, which The aggregate market is still practically are better positioned to forward integrate into aggregates production are largely fragmented with supply in the hands of small, fragmented currently not doing so, thereby leaving the aggregates market into the hands of small, participants; cement producers fragmented partipants who either operate on an wholesale or retail. Demand for can capitalize on market aggreagtes would continue to rise as it is a complimentary product to cement. This opportunities here through presents major opportunities in the form of forward integration for cement companies in forward integration the long term.
Steel & Iron – Local Production Still a Mirage
The construction industry has continued to see notable rise in the use of steel as a building material. Major characteristics which have continued to endear the material to Nigeria’s steel industry is contractors and developers include its high strength, ductility, adapatation to pre- practically non-existent as fabrication, speed of erection, among others. Currently, Nigeria‟s steel industry is in a production of crude steel is moribund state, even as Ajaokuta Steel (Nigeria‟s main steel producer) is performing almost nil; hence per capita suboptimally; not surprising then , Nigeria‟s per capital steel consumption, which is less steel consumption of 10kg is than 10kg, is awfully low in comparison to similar African countries like South Africa abysmally low (c.112kg), Egypt (c.95kg), and even Algeria (about 38kg). Emerging markets like China (405kg), Russia (178kg), South Korea (936kg), Malaysia (345kg), Thailand (150kg) all have higher per capita steel consumption. Egypt and South Africa are the major steel producers in Africa, with South Africa as the largest with production of 7.5 million tonnes in 2009 versus Egypt‟s production of 5.5 million tonnes, according to the International Steel Statistics Bureau. Currentl y, Nigeria does not produce crude steel. At best imported crude steel are processed into bars by private rolling mills.
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Nigeria Vs South Africa & Egypt (Steel production, consumption and consumption per capita)
9000 120
7500 100
6000 80
4500 Nigeria does 60 not produce crude steel 3000 40
1500 20
0 0 Nigeria South Africa Egypt
Steel Production ('000 tonnes),LHS Steel Consumption* ('000),LHS
Consumption per capita (kg),RHS
Source: World Steel Association, Vetiva Research
Comparison of Per Capital Use of Steel (Steel Consumption per Capita, 2009) in Kg
1000 936
800
600
405 419 400 345
176 187 179 200 93 115 95 48 10 0
USA
India
Brazil
China
Egypt
Japan
Africa
South South South Korea
Russia World World
Nigeria
Average Germany
Sources: World Steel Association, Vetiva Research
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According to the African Iron and Steel Association, Nigeria‟s demand for steel has been estimated at 12 million tonnes per annum, which implies that there would still be a Even if Ajaokuta and Delta shortfall of about 6 million tonnes, even if Ajaokuta Steel Company (annual capacity of Steel Company starts 5.2 million tonnes) and Delta Steel Company (annual capacity of 1 million tonnes) operating optimally, local production will still be a far becomes fully operational. With Delta Steel Company and Ajaokuta almost non- cry to Nigeria’s steel operational, it is evident how far Nigeria‟s steel industry is towards optimising its demand, estimated at 12 potentials. From the foregoing, the poor state of the local steel industry has been a million tonnes per annum major retardant on the potential of the construction industry, as reliance on imported steel has meant higher costs for construction firms. More importantly most of the imported steel bars have been adjudged sub-standard.
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Figure 18: Emerging market construction companies comparable metrics
(Mkt Mn EBITDA Margin EBIT Margin ROE (%) EV/EBITDA P/E (x) Dividend yield Company Country USD) 2010E 2011E 2010E 2011E 2010E 2011E 2010E 2011E 2010E 2011E 2010E 2011E
ARABTEC UAE 512.88 12.44% 11.55% 8% 7% 13.56 9.95 2.96 3.08 5.46 7.37 0 0
RAUBEX S/Africa 488.39 25% 20% 20% 15% 31.77 20.95 2.82 3.31 5.58 6.53 6 5.19
Long Yuan China 986.31 6% 6% n/a n/a 10.1 10 17.47 13.08 28.83 20.84 n/a n/a
JBerger Nigeria 402.41 14% 14% 6% 4% 41.9 41.1 2.57 2.24 18.81 18.04 4.52 4.73
ACC Limited India 4,025.41 23% 20% 18% 15% 18.17 16.84 8.94 8.72 16.44 16.26 2.19 2.49
LSR Group Russia 3,667.88 25% 26% 21% 23% 6.81 14.71 11.97 8.23 158.22 57.88 n/a n/a China State Construction China 3,643.32 9% 9% 9% 9% 20.3 19.16 25.41 18.99 25.9 18.85 1.21 1.58
ORASCOM Egypt 8,862.74 22% 25% 17% 20% 18.16 21.73 10.29 8.5 16.25 12.58 4.23 4.61 Reliance Infrastructure India 3,136.59 11% 12% 10% 8% 9.31 7.82 18.46 13.62 9.06 9.1 1.36 1.3
GRF S/Africa 499.55 9% 9% 7% 6% 21% 16% 1.87 2.35 5.54 7.21 4.44 3.66
Sources: Bloomberg, Vetiva Research
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Investment Summary
Stock Market performance
There are six listed construction companies in Nigeria (excluding Cappa & D‟Alberto), constituting only 1% of the total market capitalisation, with Julius The construction sector on the Berger (JBERGER) accounting for more c.80% of the sector‟s capitalisation. Most stock market is only 1% of total construction stocks are small cap stocks with low liquidity. The sector‟s market cap; Julius Berger performance is largely dependent on JBERGER, given its dominant sector weight. accounts for c.80% of sector’s YTD, the construction sector has only appreciated by 5.85%, lagging the Building capitalisation Materials (Cement) sector, and the NSE ASI, which have risen by 10.1% and 3.4% respectively. The lagging performance of the construction sector has been due to the YTD loss of 20% on COSTAIN, eroding some gains in the YTD performance of JBERGER.
th Figure 26: Share Price Performance Year Open to 26 May 2011 (Rebased)
1.3
YTD gain of the construction
sector (measured by Vetiva Construction Index) stands at 1.1 JBERGER; 2.5% +4%
Construction Index; +2.5% 0.9
COSTAIN; 0.7 -20% Dec-10 Jan-11 Feb-11 Mar-11 Apr-11
Vetiva Construction Sector Index JBERGER Costain
Sources: NSE, Vetiva Research
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Julius Berger Plc
ACCUMULATE Consistent Track Record
. Still the market leader...Julius Berger remains the market leader in Stock Data the construction sector, controlling more than 60% of Federal Bloomberg Ticker: JBERGER:NL
Government‟s contracts. Given its huge equipment base and expertise Market Price (N) 55.71
in different aspects of construction – heavy/civil, real estate and Shares Outs (bn) 1,200
industrial - the company has sustained its leadership position in the Market cap (N‟bn) 62.50
construction space. Target Price range (N) 60.45 – 68.35
. ...But competitive threat is on the rise: We see Julius Berger‟s Rating ACCUMULATE market position becoming gradually pressured with the entrant of the
Chinese Construction firms. In our view, the rising preference for Price Performance JBERGER NSE Chinese Construction companies may be due to the fact that they can 12-month (%) 5.9 -1.1 deliver projects at cheaper rates, thus, attracting higher technical and 6-month (%) 11.4 3.8 partnership agreements with Nigeria. Moreover, most of the firms are YTD (%) 11.4 3.4 state owned; meaning Nigeria stands to benefit in other sectors from
the bilateral relationship. Notably, China Construction Engineering Financials 2009A 2010E 2011F Turnover (N'bn) 150.3 160.2 184.3 Company was awarded the gigantic Lagos Light Rail Project which is estimated to cost $1.4 billion by the Lagos State Government. We note EBITDA (N'bn) 23.2 23.0 27.9 also that the Lagos – Kano rail project, which was initially awarded to PAT (N'bn) 3.3 4.3 6.8 China Construction Engineering Company at a cost of $8.3 billion in EBITDA Marg (%) 41.1 57.8 59.6
2006 but not executed due to the funding challenges, has recently been PBT Margin (%) 33.6 50.9 55.1 re-scoped in six stand-alone segments in which the Abuja – Kaduna line PAT Margin (%) 32.4 49.3 54.0 would be the start off.
Valuation 2009A 2010F 2011F . Valuation and Recommendation: We maintain an “ACCUMULATE” P/E (x) 19.3 14.3 9.4 rating on Julius Berger, given that the stock (at a current share price at P/BV (x) 8.1 7.5 6.7 N55.71) has an expected upside of 15% to N64.15- the midpoint of EV/EBITDA (x) 2.9 2.9 2.4 our revised target price range (N60.45 – N68.35). Our target Div. Yield (%) 4.5 5.7 9.1 valuation is based on the DCF methodology, with Julius Berger‟s fair value rolled one year forward at its weighted average cost of capital.
Figure 31: YTD Share price performance vs. ASI and sector index (Rebased); Shareholding Structure
1.2 Vetiva Construction Sector Index JBERGER NSE ASI
1.1 Nigerian Citizens, 29.9% Bifilger 1.1 Berger, 49.9% Benue State Government 1.0 , 5.3% Lagos State Plateau State Government 1.0 Government , 10.3% , 4.6% 0.9
Dec-10 Jan-11 Feb-11 Mar-11 Apr-11
Sources: NSE, Vetiva Research
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Investment Thesis
Expertise & Experience: Julius Berger has more than 40 years of vast construction experience in roads and bridges, railways, airports, dams and buildings. Notable projects which Julius Berger has handled in the past include the Eko and Third mainland Bridges in Lagos, the Tuga (River Niger) Bridge, Nnamdi Julius Berger has a rich 40 years Azikwe Airport Abuja among others. (See figure 28 on page 36 projects carried by experience in Nigeria’s construction Julius Berger in Nigeria). The company‟s expertise centres round its capability to industry and wide range of plan, design, and construct. Julius Berger operates its own quarries, mixing plants, equipments for various construction repair and recondition workshops as well as a large land and transport fleet. (See activities list of equipments in figure 27 below) This massive investment in equipments coupled with the expertise of its staff, makes the company capable of starting and delivering on projects promptly, hence giving Julius Berger preferential considerations for government contracts.
Julius Berger is poised to benefit Strong Revenue Potential: Julius Berger remains the strongest listed from rise in construction activities in construction firm; its history of proven job quality in the Nigerian construction view of the anticipated infrastructure space is largely unrivaled. In view of the rising emphasis on physical development infrastructural development in Nigeria, we believe it is necessary for investors to have some exposure to such infrastructure-linked equities like Julius Berger in a bid to benefit directly from the expected boom in the longer term. The renewed interest in the power sector also offers Julius Berger some growth opportunities; we believe the company would participate actively in the construction works in the power sector due to its dominant market share in Federal Government‟s construction contracts.
Strategic positioning of operational bases: Julius Berger has operational bases in three key zones in Nigeria – North Central (Abuja), South West (Lagos) Julius Berger’s operational bases are positioned in Lagos, (South-West), and South-East/South-South (Niger Delta Region), which gives the company the a Abuja (North-Central), and the Niger strategic advantage of wide coverage. More importantly, these regions are areas Delta, giving the company a strategic of fast growing construction activities. Lagos, being the commercial nerve-centre advantage of Nigeria is witnessing significant growth in construction activities, especially in the area of transportation. Abuja, also as the Federal Capital Territory has seen a major rise construction activities in the past decade, especially as population influx into the city has necessitated expansion into new towns. Julius Berger‟s Niger- Delta base enables the company to be a major partaker in the construction activities in the region‟s oil industry.
Economies of Scale: In the construction industry, economies of scale refer to the In a industry that mainly comprise small/medium scale players, less-than-proportionate rise in construction costs as project size increases. As the Economies of scale is a major biggest construction company in Nigeria, a key strength of Julius Berger in this comparative advantage for Julius regard, is the fact the company, as a result of its massive equipment base, is Berger more favourably disposed to win contract bids on large-scale construction projects, given the inherent cost minimisation edge over smaller construction companies.
Good Brand Name: Julius Berger has a good brand, which has been known for Julius Berger enjoys technical good work, quality and consistent track record, in the Nigerian construction support from the parent Bilfinger industry. The company‟s brand is almost indistinguishable from the entire Berger SE through Bilfinger construction industry. Berger Nigeria
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Strong Support from the parent : Another notable competitive advantage of Julius Berger is the strong support, in form of technical expertise, financing and innovation, of its parent company – Bilfinger Berger Nigeria, which is a multiservice international construction group, formed in 2006 as a wholly owned subsidiary of Bilfinger Berger SE. Bilfinger Berger Nigeria oversees and co- ordinates the group‟s (Bilfinger Berger SE) business in Nigeria. Through the company, Julius Berger taps into the vast potential, experience and technical know-how of the group Bilfinger Berger SE – a German – based international multiservice construction company formed in 1975 from a merger of three construction companies.
Business Overview
Profile Julius Berger Nigeria Plc was established in 1965, originally set up as a subsidiary of a German-based construction company who has been contracted to work on a bridge-building project. It subsequently diversified into road and industrial construction. Since inception, Julius Berger‟s major client has remained federal Julius Berger was established on and state governments. The first contract the company executed in Nigeria was 1965 and since then, the nd the erection of the 2 mainland bridge (popularly called the Eko Bridge). Julius company’s major client has been
Berger changed to a publicly limited liability company in 1979. The company the Nigerian government played a major role in the construction of the industrial and civil infrastructure of the 70s and the 80s. Following the promulgation to make Abuja the Federal Capital Territory in 1976, the company became closely involved in the building the infrastructure of the new federal capital territory. Julius Berger became a publicly quoted company (listed on the Nigerian Stock Exchange) in 1991 and commissioned its head office comp lex in Abuja in 2001. The company operates through its three operational bases in the Lagos (South-West), Abuja (North Central) and Niger Delta (South-South).
Construction Activities
Julius Berger can perform a wide- range of construction as summarised below; Julius Berger’s construction Buildings - Office Buildings, Functional Buildings, Residential Facilities, activities are broadly divided into Sports/Recreation Facilities; Specific examples include the National Assembly building construction, industrial Complex, Federal Ministries Complex, Central Bank of Nigeria Headquarters Abuja. construction, infrastructure and marine construction Infrastructure – Roads and Bridges, Railways, Airports, Dams and Water Supply;
Specific Examples include Port-Harcourt/Onne Rail line, Itakpe/Ajaokuta, Challawa Gorge Dam etc
Industrial Construction – Plants and Factories (Cement Plant Obajana, Fertilizer Plant Onne), Oil and Gas (Bonny LPG Tank, Floating Filling Stations), Power Stations (Power Plant Ikot Abasi Aluminium Smelter) etc
Marine – Ports, (Apapa Wharf Extension and Rehabilitation), Jetties and Piers, Dredging
Julius Berger operates as a full vertically integrated company through its support services units detailed as follows;
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Plants and Quarries: Julius Berger runs its own quarries and mixing plants. The Julius Berger runs its own company operates 10 quarries with an aggregate production capacity of 2.5 million quarries and concrete mixing tonnes per annum, 11 concrete mixing plants with a hourly capacity of 550m3 and plants 7 asphalt mixing plants with combined capacity of 630 tonnes per hour. Equipments: The Company owns and operates a large number fleet of construction equipments.
Figure 27: Julius Berger Construction Equipments Equipment Description Specific Type Number
Earthmoving Equipments Excavators 130 Dozers 90
Wheel/Track Loaders 60 Graders 60
Scapers 10 Compactors 130
Lifting Equipments Tower Cranes 65 Mobile Cranes 100 Gantry and Overhead Cranes 70
Material and Personnel Hoist 20 Fork Lifts 110
Truck Mounted Concrete Pumps 15 Transportation & Marine Equipments Trucks 660
Trucks with Trailers 465 Tugboats 20 Pontoons 35
Diesel Locomotives 7 Bucket and Platform Wagons 60
Speed and Working boats 80 Jack Up Barges 3
Pontoons for Pile driving of pile boring operation 2
Sources: Company, Vetiva Research
Laboratories: Julius Berger operates central laboratories in Abuja and Lagos for the testing of all its construction materials.
Special Facilities: These are used in fabrication of steel products, manufacturing of aluminium products, production of oxygen gas, remoulding of truck tyres and reconditioning of truck and marine engines.
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The company also has established factories for pre-cast concretes units, railway sleepers, roof tiles, interlocking pavement, blocks, kerbstones, and sewage pipes. These products were designed to ensure quality and flexibility whilst enhancing the timely completion of projects.
Special Units
Foundation Technology: This ensures the delivery of customised cost effective solutions for the foundation structures of Julius Berger projects. The services The company operates special provided by this unit are as follows; Explanatory drilling, Soil reports, Foundation facilities used in fabrication of design and engineering, Subsoil consolidation, Wick drains, Bored Piles (5 drilling steel and manufacturing of rigs), Driven Pills (5 pilling rigs) and Water Wells aluminum products
Technical Services: Services provided include design and engineering for building and civil engineering projects, budget estimates for feasibility studies, scheduling, feasibility studies and project management. Subsidiaries
Julius Berger Services Nigeria Limited: The company is a wholly (100%) owned subsidiary with principal activities in port management services.
Abumet Nigeria Limited: It is a 70% owned subsidiary of Julius Berger Plc with major activities in manufacturing and installation of building aluminum components. Julius Berger Nigeria plc Corporate Structure
Bilfinger Berger SE
Bilfinger Berger Nigeria
Julius Berger * ** ICS Nigeria CEC
Support Subsidiaries Service Special Units Units
Plants and Quarries, Foundation Abumet Nig. Julius Berger Equipments, Technology, Ltd (70% Services Nig. Ltd Laboratories, Technical Services owned) (100% owned) Special Facilities
Source: Vetiva Research, Company Website *International Contracting Service Limited; **Construction Engineering + Contracting
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Figure 28: Construction Projects Handled by Julius Berger Projects Construction Period Buildings/Sports/Recreational Centres Construction
Central Bank of Nigeria HQ, Abuja 1999 - 2002 Federal Ministries Complex, Abuja 1990 - 1995 Police Force HQ, Abuja 1998 - 2001 National Assembly Complex 2004 - 2007
National Stadium, Main Bowl, Abuja 2000 - 2003 IBB International Gold Course, Abuja 1987 - 1991/1994
National Chilren's Park and Zoo, Abuja 2001 Velodrome Sports Complex, Abuja 2002 - 2003 International Conference Centre, Abuja 1990 - 1991 National Hospital, Abuja 1997 - 1998 Shehu Musa Yaradua Centre 2000 - 2002 Ogeyi Place Hotel, Port-Harcourt 2000 - 2003 Tinapa Business Resort 2005 - 2007 Railway Village Agbor 1997 - 1999 Army Barracks Abuja 1989 - 1992 Residential Area, LNG, Bonny Island 1996 - 1999 Infrastructure - Roads, Bridges, Railways, Airports, Ports, Jetties
Eko Bridge, Lagos 1973 - 1975 Inner Ring Bridge, Lagos 1975 - 1979 Imo River Bridge 1991 - 1993 Tuga Bridge, River Niger 1988 - 1989 Tombia Bridge, Nun River 2001 - 2002 Infrastructure works for Abuja 1980 - 1998 Ekole Bridge, Yenagoa 2006 - 2007 Itakpe-Ajaokuta Rail line 1987 - 1990 Nnamdi Azikwe Int. Airport Abuja 1993 - 1997 Osubi Airport, Warri 1997 - 2000 Katsina Airport & Infrastructure 2006 - 2007
Yola Airport 2000 - 2001 Tincan Island Port, Lagos 1976 - 1977 Warri Port 1977 - 1979 Sapele Port 1980 - 1982 Apapa Wharf Extension 1975 - 1978 Apapa Wharf Rehabilitation 2000 - Ongoing Bonny LNG Jetty 1996 - 1999 Bonny LPG Jetty 2000 - 2002 Ikot Abasi Jetty 2001 - 2003 Industries; Factories, Power Plants, Oil & Gas Construction Aladja Steel Plant Warri 1978 - 1982
Ajaokuta Steel Plant lot 2 1980 - 1990 Alumium Smelter, Ikot Abasi 1990 - 1999 Fertilizer Plant, Onne 1983 - 1987 Cement Plant, Obajana 2003 - 2005 Bonny LNG Plant 1996 - 2000 Bonny LNG Storage Tank 2000 - 2003 Atlas Cove Single Point Mooring 2000 - 2001 Floating Filling Stations Niger Delta 2007 - Current NNPC Retail Outlets Phase I-V 2002 - 2007 Power Plant, Ikot Abasi Alumium Smelter 1993 - 1995 Power Plant, Warri Port 1977 - 1979 Power Plant, Tincan Island 1976 - 1977 Sources: Company, Vetiva Research
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Revenue Structure Construction activities account for c.98% whilst sales of goods and services from its subsidiaries account for only 2% of the company‟s total revenues. We estimate that federal government contracts account for 55% – 60%, state governments 25% – 30% and private sector (mainly Oil and Gas industry) 10% - 20%. This Revenue is concentrated around estimate shows that Julius Berger‟s revenue is highly concentrated with federal government’s budgetary government contracts, which in turn is dependent on budgetary allocation to allocation to CAPEX capital expenditure and more importantly, implementation of the capital expenditure budget. We believe there would be increased competition in the Oil and Gas sector if the Petroleum Industry Bill is implemented, given the bill‟s focus on local content development. Hence, we are likely to see increased participation of fully indigenous construction company in the construction contracts of the oil and gas industry. Nonetheless, Julius Berger‟s capacity (in terms of asset base) to undertake and execute complex construction contracts in the oil and gas industry would continue to give the company a good edge.
Outlook on Revenue
Given the capital intensive nature of infrastructure projects, governments have been the biggest spender on infrastructure in Nigeria. Hence, Julius Berger‟s revenue fortunes in the medium term (3 to 5 years) remains largely hinged on governments‟ (state and federal) budgetary allocation to capital expenditures. Notably, however, the landscape of infrastructure financing on the African continent is gradually changing with rising focus on private sector participation, Medium term revenue outlook is especially in form of PPPs. In this regard, construction companies are going hinged on CAPEX budgetary beyond construction to patterns like “Build and Operate” (BO) or “Build, Operate implementation; however a and Transfer” (BOT) arrangements in which the companies are the co-financiers of repositioning of Julius Berger’s business model in the longer term, the projects, with the government or other financiers. Drawing a cue from the to capture PPP opportunities is construction of Lekki-Epe expressway and Muritala Mohammed Airport (MMA) 2, imperative which are PPP projects and the on-going Lagos Light Rail Projects being constructed by the Chinese State Engineering Corporation using a similar PPP pattern, we believe the structure of the construction industry, in the longer term
(5 – 10 years), will no doubt change towards this pattern. It is therefore important for Julius Berger to begin to re-position its business model for long term relevance in the Nigerian construction industry.
Notwithstanding, Julius Berger‟s revenue prospects remain very strong at least in the next five years. The key reason, which cannot be overstressed, is the investments anticipated in physical infrastructure from the government. However, a likely drag on Julius Berger‟s strong prospects in the medium term, in our view is With CAPEX budgetary still very low poor budgetary implementation, especially on the CAPEX side. Notably, budgetary at around 27% (based on 2010 budget), stronger revenues is implementation on the CAPEX side stood around 27%, in contrast to over 100% anticipated for Julius Berger as implementation on the recurrent side. On a quantitative note therefore, we implementation increases estimate a 7% and 15% growth in revenues in 2010 (yet to be announced) and 2011 respectively. With the expectation that federal government would have fully settled in from 2011 transition and therefore pursue infrastructure development a bit more aggressively, we project a higher growth rate of 20% (YoY) in revenue over the medium term (2012 – 2015).
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Cost Structure The cost of the construction industry is quite complex, given the diverse forms of construction projects, but generally, the costs component of a construction firm is divided into variable and fixed costs.
The variable component is subdivided into two categories: Wages and Materials. Construction materials include cement, aggregates, steel, iron rods, wood etc. Though wages generally increase with the size of construction (as more labour would be required), we believe, the reverse is true for Julius Berger – hence construction materials account for a larger portion of its variable costs rather than labour. In Nigeria, construction labourers are somewhat poorly paid and most of Cost structure is complex but these workers are purely on a wage basis with no benefits from the company. broadly driven by cost of Also, the construction materials, especially cement and steel are quite expensive construction materials, depreciation in Nigeria – about one the highest globally – since Nigeria is still a net importer of and other fixed costs and wages these materials.
While noting the high operating leverage of the construction industry (due to high fixed costs) variable costs as a proportion of total costs, still tends to be higher than in the manufacturing industry. The fixed component of the construction costs is essentially in the form of depreciation and maintenance charges, given the high fixed asset base of the industry. For Julius Berger, which is more or else a fully integrated construction firm with Plants, Quarries, Pre-cast concrete factories, Heavy machineries and equipments, overall depreciation and maintenance charges for these units would be quite significant. The advantage of its fully integrated service structure however is the fact that overall production costs of pre-cast construction materials would tend to be lower than if the materials were purchased ready-made. Economies of Scale: Unlike the manufacturing sector where economies of scale Economies of scale is difficult to is quite noticeable and the benefits therewith easily accruable, the workings of the achieve in the construction industry, but Julius Berger can be said to construction industry is somewhat different and it is difficult to achieve economies have achieved economies of scale of scale. The key to economies of scale in the construction industry is integration. given its integration Julius Berger is perhaps the only construction firm in Nigeria that can be said to have achieved some level of economies of scale, given its special services unit
(which comprises its pre-cast factories, plants, quarries and equipments). Outlook on Costs
As against the historical rising trend of Julius Berger‟s costs (especially costs of sales), we expect some moderation in material costs growth, and hence total In line with the expected increase in costs. Our expectation is predicated mainly on the expected reduction in cement cement sector output in the next few years, we expect some prices in the long term, with the increasing production output in the sector. This, moderation in growth of coupled, with the company‟s economies of scale (relative to smaller sector construction material costs players), should see Julius Berger‟s costs grow at a slower pace. We estimate a 3 year CAGR of 18% over FY‟10 to FY‟13 as against the historical 3 year CAGR (from
2006 to 2009) of 42.9%.
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Financial Analysis
In line with our overall medium term expectations for Julius Berger revenues, we project a 3-year CAGR growth of 65% from FY‟10E of N160 billion to FY‟13F of We project a 3-year CAGR growth of N265 billion. Expected growth in profitability however, is not as impressive as top- 65% in revenue to N265 billion in line since we do not anticipate any major improvement in Julius Berger‟s FY’13 from FY’10E of N160 billion characteristically low profit margins , given the huge operating leverage of the business. Hence we project a 3-year CAGR of 18.3% in EBITDA and 7.4% in EBIT.
Figure 29: JBerger’s Revenue (N’Billion) and YoY Revenue Figure 30: EBITDA (N’Billion) and EBITDA Margin (%)
Growth (%)
250 50.0% 35 16%
44.2% 15% 15% 200 39.0% 40.0% 26 15%
14% 14% 31.9% 150 30.0%
18 20.0% 100 20.0% 12% 15.0% 9 50 10.0% 11% 11% 6.6%
0 0.0% 0 10% 2007 2008 2009 2010E 2011F 2012F 2007 2008 2009 2010E 2011F 2012F
EBITDA (N'Billion) EBITDA Margin (%) Revenue (N'Billion) YoY Growth (%)
Sources: Annual Accounts, Vetiva Research Estimates
Given the nature of Julius Berger‟s business, we believe the company would continue to invest in its physical assets and hence, would continuously require Julius Berger’s C50 million loan was periodic financing. The company still has up to a C50 million 3 year credit line with 69% drawn down as at FY’09; the HSBC Bank London, with about 69% drawn as at FY‟09. Given that the loan is loan has a 3 year tenor, expiring in priced at a floating rate of Euribor plus 1.2%, it is difficult to project interest 2012 payments, however we expect minimal interest payments (low interest rate compared to local borrowing rates), though subject to exchange rate volatility.
With the loan expected to be fully repaid by 2012, we have assumed that the company will not take up any long term debt for the rest of our forecast period. We project a 3 year CAGR growth of 14.7% and 29.9% in pre -tax and after tax income to N14.1 billion and N9.5 billion in FY‟13 from FY‟10 estimates of N9.1 billion and N4.3 billion; hence we expect Julius Berger‟s Earnings per Share to come close to N7.95 by FY‟13 from N2.82 FY‟10 estimate (3-year CAGR of 29.6%)
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Figure 31: Operating Profit -EBIT (N’Billion) and EBIT Figure 32: Pre-tax profit (N’Billion) and EBITDA Margin (%) Margin (%)
200% 14 7.5% 184% 12.5 6.8% 6.9% 150% 11 6.5% 6.2% 10.5
100%
5.5% 8.5 66% 80% 7 5.5%
50% 5.1% 6.5
23% 4 4.5% 9% 0% 4.5 -3% 4.0%
0 3.5% 2.5 -50% 2007 2008 2009 2010E 2011F 2012F 2007 2008 2009 2010E 2011F 2012F
PBT (N' Billion) PBT growth (%) EBIT (N'Billion) EBIT Margin (%)
Sources: Annual Accounts, Vetiva Research Estimates
In line with our assumption that Julius Berger is unlikely to take up new long term debts in the short to medium term after its current C50 million line matures in 2012, we expect the company‟s debt ratios (total debt to equity & total debt to assets) to moderate downwards.
Figure 33: Debt, Debt to equity and CAPEX to total assets ratios
160.0%
120.0%
80.0%
40.0%
0.0%
2007 2008 2009 2010E 2011F 2012F
Total Debt to Equity Total Debt to Assets CAPEX to Sales
Sources: Annual Accounts, Vetiva Research Estimates
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Valuation
Our valuation is based on the Discounted Cash-flow Methodology (DCF) with forecasts spanning five years.
DCF assumptions -
. Revenue growth: 15% in 2011; 20% from 2012 to 2015. As the industry Our forecast span through five approaches its peak growth rate, we expect some declines in growth rate, until years, assuming 15% growth rate in it finally stabilizes in the longer term. 2011 and 20% from 2012 to 2015
Our long term perpetual growth rate stands at 4% based on our thinking that growth in the construction industry would eventually lag long term GDP growth rate (estimated at 6%), expected as a country moves towards being a
developed economy.
. Cost of sales (as percent of sales): Assumption of 82% over forecast period, Costs (as percent of sales) is kept at slightly lower than historical three year average of 83.5%, as we see only a 82% in the forecast period
little upside to costs in the long term, given our expectation of relatively stable cement prices, a single digit growth in long term inflation and expectations of an improved power sector.
. CAPEX: Based on three years historical CAPEX/sales ratio of 15.5%
WACC assumptions are stated in the table below;
Figure 34: WACC Assumptions
After tax cost of debt* 2.2%
Tax rate 32.0%
Risk free rate 12.5%
Beta 0.71
Equity risk premium 5.0%
Debt/Total Capital 23% Shareholders Equity/Total Capital 77% WACC 14.2%
DCF value N59.55 FY’11 Target Price (rolled six month forward at WACC) N64.15
4 six month exponential weighted average of 20 year bond yields adjusted quarterly
Rating
Our revised DCF-based valuation for Julius Berger gives a target price of Our revised target price for Julius
N64.15 which implies a potential return of 15% relative to the company‟s Berger is N64.15 – a potential 15% current price of N55.71 Hence we maintain an “Accumulate” rating on Julius return to its current price; hence we Berger‟s shares. maintain an “Accumulate”
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Appendix 1: Financial Statements: Actual and Forecasts (N’Mill)
INCOME STATEMENT (N'Mill) 2,007 2,008 2,009 2010 E 2011 F 2012 F Turnover 79,074 114,029 150,358 160,282 184,324 221,189 Cost of Sales (66,243) (96,786) (123,102) (131,431) (149,671) (180,822) Gross Profit 12,831 17,243 27,256 28,851 34,653 40,367 Operating Expenses (4,435) (5,610) (6,437) (5,802) (6,673) (8,007) Core Operating Profit 8,396 11,632 20,819 23,048 27,980 32,360
EBITDA 8,748 12,736 23,169 23,048 27,980 32,360 Depreciation & Amortization (5,595) (6,922) (12,977) (11,932) (16,601) (20,151) EBIT/Operating Profit 3,152 5,814 10,192 11,117 11,379 12,209 Interest Payable & Charges - (573) (747) (1,983) (1,428) - Profit Before Taxation 3,152 5,241 9,444 9,134 9,951 12,209
Taxation (1,384) (2,733) (6,144) (4,859) (3,184) (3,907) Profit After Taxation 1,768 2,508 3,300 4,275 6,767 8,302
BALANCE SHEET (N'Mill) 2,007 2,008 2,009 2010 F 2011 F 2012 F
Fixed Assets 24,000 28,574 48,689 57,949 67,579 78,881 Long Term Investments 5,684 - 2,000 2,000 2,000 2,000 Inventories 9,901 12,146 15,222 17,463 19,887 24,026 Debtors 30,873 45,171 47,083 58,754 67,567 81,081
Bank and cash balances 3,947 22,844 9,047 12,633 13,229 5,553 Other Receivables and Current
Assets 14,149 29,694 32,659 32,183 37,011 44,413 Total Current Assets 58,870 109,854 104,012 121,033 137,695 155,072
TOTAL ASSETS 180,982 207,274 235,954 278,012 350,103 395,816 Creditors & Accruals 1,929 5,334 4,046 3,896 4,480 5,376 Other Creditors 74,640 114,530 119,880 146,691 168,695 202,434
Short Term Loan 118 4,290 8,094 6,307 7,041 7,501
Taxation 1,389 2,184 3,954 4,859 3,184 3,907 Total Current Liabilities 78,076 126,338 135,974 161,753 183,400 219,217 Long-Term Loans - - 3,569 5,593 2,937 - Provision for Gratuity 3,975 4,582 6,304 4,250 9,825 2,379
Total Non-Current Liabilities 3,975 4,582 9,874 9,843 12,762 2,379 TOTAL LIABILITIES 176,865 201,638 229,310 270,183 341,644 386,362 Net Assets 4,117 5,635 6,644 7,829 8,458 9,454
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Appendix 2: Financial Statements: Actual and Forecasts (USD Mill)
INCOME STATEMENT (USD'Mill) 2,007 2,008 2,009 2010 F 2011 F 2012 F Turnover 672 916 1,021 1,034 1,189 1,427 Cost of Sales (563) (777) (836) (848) (966) (1,167) Gross Profit 109 138 185 186 224 260
Distr. & Admni Expenses (38) (45) (44) (37) (43) (52)
Core Operating Profit 71 93 141 149 181 209 EBITDA 74 102 157 149 181 209 Depreciation & Amortization (48) (56) (88) (77) (107) (130) EBIT/Operating Profit 27 47 69 72 73 79
Interest Payable & Charges 0 (5) (5) (13) (9) 0 Profit Before Taxation 27 42 64 59 64 79 Taxation (12) (22) (42) (31) (21) (25)
Profit After Taxation 15 20 22 28 44 54
BALANCE SHEET (USD'Mill) 2,007 2,008 2,009 2010 F 2011 F 2012 F
Non-Current Assets Fixed Assets 204 229 331 374 436 509
Long Term Investments 48 0 14 13 13 13 Inventories 84 98 103 113 128 155
Debtors 263 363 320 379 436 523 Bank and cash balances 34 183 61 82 85 36
Other Receivables and Current Assets 120 238 222 208 239 287 Total Current Assets 501 882 706 781 888 1,000
TOTAL ASSETS 1,539 1,664 1,602 1,794 2,259 2,554
Creditors & Accruals 16 43 27 25 29 35
Other Creditors 635 920 814 946 1,088 1,306 Short Term Loan 1 34 55 41 45 48
Taxation 12 18 27 31 21 25 Total Current Liabilities 664 1,014 923 1,044 1,183 1,414
Long-Term Loans 0 0 24 36 19 0 Provision for Gratuity 34 37 43 27 63 15
Total Non-Current Liabilities 34 37 67 64 82 15
TOTAL LIABILITIES 1,504 1,619 1,557 1,743 2,204 2,493
Net Assets 35 45 45 51 55 61
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Appendix 3: Financial Ratios – Actual and Forecasts
RATIOS 2007 2008 2009 2010 E 2011 E 2012 E Growth Turnover growth 39.0% 44.2% 31.9% 6.6% 15.0% 0.2 EBITDA Growth 13.1% 45.6% 81.9% -0.5% 21.4% 0.2 PBT Growth 182.8% 66.2% 80.2% -3.3% 8.9% 0.2
PAT Growth 6008.9% 41.8% 31.6% 29.5% 58.3% 0.2 Liquidity Ratios (x)
Current Ratio 0.8 0.9 0.8 0.7 0.8 0.7 Quick Ratio 0.6 0.7 0.6 0.6 0.6 0.6 Cash Ratio 0.1 0.2 0.1 0.1 0.1 0.0 Days in receivables 116.6 121.7 112.0 120.5 125.1 122.6 Days in payables 25.3 13.4 13.6 10.8 10.0 9.7
Profitability
Return on Average Equity 36.3% 40.9% 45.6% 52.5% 75.6% 82.5% Return on Average Assets 2.0% 2.2% 2.3% 2.5% 3.5% 3.7%
EBITDA Margin 11.1% 11.2% 15.4% 14.4% 15.2% 14.6% EBIT Margin 3.6% 4.0% 5.1% 6.8% 6.9% 6.2% PBT Margin 4.0% 4.6% 6.3% 5.7% 5.4% 5.5% PAT Margin 2.2% 2.2% 2.2% 2.7% 3.7% 3.8% Per Share Data
Earnings Per Share 1.5 2.1 2.7 3.6 5.6 6.9 Dividend Per Share 1.3 1.8 2.4 3.0 4.8 5.9 Net Assets Per Share 4.7 5.5 6.5 7.0 7.9 8.9 Sales Per Share 65.9 95.0 125.3 133.6 153.6 184.3 Valuation Multiples
P/E (x) 37.8 26.7 20.3 15.6 9.9 7.7 P/B (x) 11.9 10.1 8.5 7.9 7.1 6.2 Dividend Yield (%) 2.2 3.1 4.3 5.5 8.6 11.1 EV/EBITDA (x) 7.9 5.5 3.0 3.0 2.5 2.1
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INVESTMENT RATINGS Vetiva uses a 5-tier ratings system for stocks under coverage: Buy, Accumulate, Neutral, Reduce and Sell.
Buy ≥ +25.00% expected absolute price performance
Accumulate +10.00% to +24.99% expected absolute price performance
Neutral +5.00/+9.99% range expected absolute price performance
Reduce -5.00% to +4.99% expected absolute price performance
Sell < -5.00% expected absolute price performance
Definition of Ratings
Buy rating refers to stocks that are highly undervalued but with strong
fundamentals and where potential return in excess of or equal to 25.00% is expected to be realized between the current price and analysts‟ target price.
Accumulate rating refers to stocks that are undervalued but with good fundamentals and where potential return of between 10.00% and
24.99% is expected to be realized between the current price and analysts‟ target price.
Neutral rating refers to stocks that are correctly valued with little upside or downside where potential return of between +5.00 and+9.99% is expected to be realized between current price and analysts‟ target price.
Reduce rating refers to stocks that are overvalued but with good or weakening fundamentals and where potential return of between -5% and -+4.99% is expected to be realized between current price and analysts‟ target price.
Sell rating refers to stocks that are highly overvalued but with weak fundamentals and where potential return in excess less than -5% is expected to be realized between current price and analysts‟ target price.
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Nigeria I Equities I Construction CONTACTS Vetiva Research Email
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Nigeria I Equities I Construction
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