High Risks But Potentially High Rewards For Arabtec In Egypt

Arabtec's newly awarded contract to build one million houses in Egypt is both a major opportunity and a significant risk. On the one hand, this project allows Arabtec to ramp up its presence in the Egyptian market where we anticipate strong levels of growth in construction sector over the medium-to-long term. In addition, the awarding of this major construction project could help maintain the elevated stock price Arabtec, which is the Persian Gulf's largest publicly traded company, has enjoyed over recent weeks. However, at US$40bn the contract could potentially stretch the company beyond the limits of its capacity, especially considering that Arabtec had significantly boosted its backlog over the beginning of 2014 already.

We have been following Arabtec closely over 2013 as a series of developments pointed to the company gearing up for a solid period of earnings. From the US$1.4bn contract to build a mixed-use development of 500,000 square meters in Kazakhstan ( see 'Arabtec's Momentum Continues', 20 Jun 2013), the joint venture with Korean Samsung Engineering which aims at increasing Arabtec's involvement in the hydrocarbons sector ( see 'Arabtec Enlists Samsung To Target EPCs And Good Growth' 27 Sep 2013), and more recently the announcement that the company will open five new subsidiaries in order to grow its international exposure, including to the Egyptian market. As we anticipated, these moves, particularly international diversification, have had a considerable positive impact on the company's stock price which increased by almost 80% in the first 6 weeks of 2014. Looking ahead, if the Egyptian contract is delivered successfully, Arabtec will be a completely different company in five years time.

Arabtec signed the agreement to build one million houses for low-income families with the Egyptian army. Construction on the project, which will be developed in several phases, is expected to begin in Q314 in order to reach completion by 2020. To ensure demand for such a large projects, Arabtec has entered into an agreement with forty Egyptian banks to offer financial assistance to those low-income individuals at which the houses are targeted, according to the company's CEO, Hasan Ismaik.

Sky High, But Sustainable?
Arabtec Stock Price, AED

Arabtec's newly awarded contract to build one million houses in Egypt is both a major opportunity and a significant risk. On the one hand, this project allows Arabtec to ramp up its presence in the Egyptian market where we anticipate strong levels of growth in construction sector over the medium-to-long term. In addition, the awarding of this major construction project could help maintain the elevated stock price Arabtec, which is the Persian Gulf's largest publicly traded company, has enjoyed over recent weeks. However, at US$40bn the contract could potentially stretch the company beyond the limits of its capacity, especially considering that Arabtec had significantly boosted its backlog over the beginning of 2014 already.

We have been following Arabtec closely over 2013 as a series of developments pointed to the company gearing up for a solid period of earnings. From the US$1.4bn contract to build a mixed-use development of 500,000 square meters in Kazakhstan ( see 'Arabtec's Momentum Continues', 20 Jun 2013), the joint venture with Korean Samsung Engineering which aims at increasing Arabtec's involvement in the hydrocarbons sector ( see 'Arabtec Enlists Samsung To Target EPCs And Good Growth' 27 Sep 2013), and more recently the announcement that the company will open five new subsidiaries in order to grow its international exposure, including to the Egyptian market. As we anticipated, these moves, particularly international diversification, have had a considerable positive impact on the company's stock price which increased by almost 80% in the first 6 weeks of 2014. Looking ahead, if the Egyptian contract is delivered successfully, Arabtec will be a completely different company in five years time.

Sky High, But Sustainable?
Arabtec Stock Price, AED

Arabtec signed the agreement to build one million houses for low-income families with the Egyptian army. Construction on the project, which will be developed in several phases, is expected to begin in Q314 in order to reach completion by 2020. To ensure demand for such a large projects, Arabtec has entered into an agreement with forty Egyptian banks to offer financial assistance to those low-income individuals at which the houses are targeted, according to the company's CEO, Hasan Ismaik.

The Egyptian defence ministry has provided land in 13 locations and the developments will include public amenities such as hospitals, parks, schools and places of worship with an overall land area of more than 160mn square meters, as reported in the Financial Times. Of the total, 149mn square meters will be in Cairo governorate, while the rest will be in the governorates of Alexandria, Maanoufiyah, Fayyoum, Bani Suwaif, Al-Menyah, Asyout, Souhag, Qana and Luxur.

We highlight that the challenges in executing this project are not minor. As of December 2013, Arabtec's backlog stood US$6.4bn, reporting healthy but manageable growth. However, the awarding of numerous contracts over the beginning of 2014, including a US$6.1bn contract to build 37 towers in the UAE in February more than doubled the company's backlog to US$16.9bn. Now, having agreed to the housing contract in Egypt, Arabtec's backlog looks set to increase significantly further. This represents a major challenge for any firm, even for the UAE's largest construction company. Another major challenge for Arabtec will be sourcing building materials, as well as finding skilled labour including engineers - which are already scarce in the Middle East - to deliver this project. Furthermore, tight gross margins threaten the company's profit in a scenario where construction costs rise.

Egypt's housing shortage is estimated at as much as 500,000 units per year. A major factor behind the limited supply has been the lack of low-income housing expertise among the country's largest housing developers, as well as inadequate incentives to undertake low-income projects over more lucrative mid-to-high-end developments. As such, the construction of one million houses in Egypt is a much welcomed announcement that will help alleviate the housing gap and create jobs - both of which are also intended to appease social unrest and increase the popularity of the interim government.

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Related sectors of this article: Infrastructure, Construction, Residential Construction, Housing
Geography: Egypt
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