Wednesday, 8 June 2022

How have infrastructure players been impacted by the headwinds of 1Q2022?

How infrastructure players performed in 1Q2022 amid rising prices + EGP depreciation: Plenty of economic headwinds have hit infrastructure firms listed on the EGX this past quarter, with operating costs and material prices soaring from the war in Ukraine and domestic inflation. Add to that the CBE’s 300 bps rate hikes and the EGP depreciation in March, and companies have faced mounting margin pressures. The EGP has now fallen 18% against the USD since March after slipping to EGP 18.66 last week. While some infrastructure players (including traditional contractors, as well as telecom and financial infrastructure companies) have benefited from rising prices, others’ revenues were hit hard.

The real impact came after the war in Ukraine began at the end of February, which means that 75% of the quarter was unscathed, Noaman Khalid, associate director at Arqaam Capital, tells Enterprise. “The local and global factors at play as a result of the war are not fully reflected in companies’ 1Q 2022 earnings,” he said, adding that its impacts will be more apparent in 2Q and 3Q figures. A lot of the problems contractors have had to face — like the raw materials shortage — were also not exclusive to 1Q, but rather were inherited from late last year and exacerbated by the war, Mohamed Saad, vice president of research at Prime Securities, tells Enterprise.

Contractors with European exposure suffered in 1Q: EGX-listed heavyweight Orascom Construction reported a 45% fall in its net income, citing deepening losses at the Belgian Besix group, in which Orascom holds a 50% stake. The group’s losses widened to USD 11.0 mn from USD 1.4 mn in 1Q 2022, as European contractors suffered the brunt of the fallout from the war, which included raw material shortages and rising energy prices.

Others were resilient — largely with the help of diversified portfolios: Elsewedy Electric’s net income was up 9% y-o-y to EGP 760.9 mn during the quarter, according to the company’s latest earnings release (pdf). The company’s diversified portfolio — which extends beyond turnkey projects — managed to offset any margin pressures on the company, with its wires and cables segment bringing in nearly half of its revenues. OC’s diversified portfolio also helped mitigate the impact of its losses (which were primarily due to Besix losses), Saad said.

More pressure on working capital = more debt: “Contractors are not seeing a massive slowdown to their performance, but their working capital is inflated,” EFG Hermes Associate Vice President Ali Afifi said. “This prompts companies to take on more short-term facilities and debt, and make decisions like revisiting their dividend plans, which is what Elsewedy Electric did,” Afifi added. Elsewedy has not paid out any interim dividends ahead of its financials, and its debt position for the quarter rose near EGP 9.1 bn, compared to EGP 6.12 bn as of 4Q2022.

And more contingency planning: Rising debt levels were attributed to “contingency planning,” which included measures like bulk buying raw materials, making large advance payments, and coverage of rising freight costs, “in an effort to curb delays in commodity deliveries and supply-chain disruptions that could negatively impact operations,” Elsewedy wrote.

Large contractors’ earnings could be negatively impacted if public spending on infrastructure development is reduced after budget revisions, Khalid said. MPs have been calling for an expansion in spending for subsidy and social safety nets, which Khalid noted could impact infrastructure allocations. Infrastructure represents the single largest recipient of public investments in the draft FY 2022-2023 budget. We don’t know yet if the government will make changes to its budget, but it has said that the figures in the draft budget are “tentative” and could be changed.

This could mean longer implementation periods for national projects, Khalid explained, as one of the only ways for companies to handle investment cuts will be to extend payment term durations. This could impact earnings down the road as these projects stretch and their costs pile up, Saad said, but this was not reflected in companies’ performance during the first quarter, because it’s more of a long-term impact.

Contractors’ stock performance is a reflection of all of these pressures, Khalid said. Elsewedy’s shares are down 27.8% YTD, while OC’s shares are down 13.6%.

On the bright side: “A lot of evidence points to us currently hovering around the peak of the global commodities cycle in terms of prices, whether we’re talking about oil or other commodities like cement and steel,” Khalid said. This next period will be marked by a slowdown and relative stability or normalization, he added.

Telecom players were impacted by the rising FX rate: State-owned landline monopoly Telecom Egypt performed well, but its net income fell 36% y-o-y on the back of Vodafone Egypt’s one-offs, Saad explained. Its normalized income — which excludes Vodafone Egypt’s one-offs, the effect of the rising FX rate, provisions, and impairments — stayed flat y-o-y at EGP 1.7 bn. The company’s weaker performance this quarter was also attributed to rising operating expenses and FX rate, Beltone said in an emailed note. Telecom’s shares are down 9.7% YTD.

Financial infrastructure players had it better: State-owned e-Finance’s net income jumped 40.6% y-o-y in 1Q2022 to EGP 200.3 mn, with the company’s digital operations accounting for 90% of total revenues. The government has been working on measures to advance financial inclusion through expanding fintech infrastructure — a lot of which is through e-Finance’s digital infrastructure — since before the war, but this has become even more important since the war began, CI Capital equity analyst Enjy Heshmat told Enterprise. That means that if anything, the war’s impacts will be a boon for the company moving forward, especially in light of the additional spending expected from the government to cushion the war’s economic impact, a large portion of which e-Finance processes, Heshmat added.

Still, Fawry + e-Finance’s shares have fallen this year: e-Finance’s shares are down 21.1% YTD, but this could be as the market awaits a consecutive set of solid results before they gain confidence in the stock, Heshmat explained. e-Finance completed its blockbuster IPO last October, and has since only reported financials for 9M2021 and 1Q2022. Fawry’s share price is down nearly 70% YTD, but this is attributed to a slate of one-off events that have a short-term impact on share price but should bring about better results down the line, Heshmat explained. These include its recent EGP 800 mn capital increase and a recently-introduced employee stock ownership plan (ESOP), both of which can dilute the company's share value and can prompt some investors to exit the stock, Heshmat said. “The market is now waiting to see how these measures will translate into better performance,” Heshmat said. The company has not yet reported its 1Q earnings.

Your top infrastructure stories for the week:

  • Etisalat gets an infrastructure boost from Telecom Egypt: Our friends at Etisalat Misr signed six agreements worth EGP 17 bn with Telecom Egypt to expand its transmission and fiber optic infrastructure.
  • Israel could increase gas exports to Egypt and Jordan in the coming months as it moves to start production at the disputed Karish gas field in the eastern Mediterranean.
  • EU funding to bolster wheat storage capacity, small farmers: The EUR 100 mn in food security funding announced by the EU in April will go towards upgrading Egypt’s wheat storage capacity and supporting SMEs in the agricultural sector.

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