Reblog – IPO review: Prince Pipes

IPO Snapshot:

Prince Pipes is entering the primary market on Wednesday 18^th December 2019, to raise Rs. 500 crore, via an IPO of equity shares of Rs. 10 each, comprising fresh issue of up to Rs. 250 crore and an offer for sale (OFS) of up to Rs. 250 crore by promoters, in the price band of Rs. 175-178 per share. Issue, split 50:15:35 among institutional, HNI and retail investors respectively, represents 26% of the post-issue share capital and will close on Friday 20^th December, with listing likely on 31^st December.

Company Background:

Prince Pipes is a 30 year old, family run business, making polymer pipes and fittings at 6 plants (in Silvasa, Haridwar, Kolhapur, Chennai, Rajasthan) with total installed capacity of 2.4 lakh tonne per annum (TPA) while production capacity is assessed at 1.9 TPA. While Rajasthan plant is new (started in Q2FY20), its installed capacity is being expanded from current 6,221 TPA to 17,021 TPA by Dec 2019 and to 20,909 TPA by FY20-end. Company also plans a 51,943 TPA greenfield facility at Telangana, likely to be operational by Dec 2020, implying 28% capacity hike in the next 18 months. About less than 10% of production is also outsourced to 5 contract manufacturers (in Aurangabad, Guntur, Odisha and Bihar) as logistics cost are vital, given the bulky nature of products. Company markets its products pan-India under brands Prince and Trubore, via 1,027 distributors. Going forward, it plans to focus on plumbing and drainage segments and less on irrigation, given latter’s lower margins.

Objects of Issue and Shareholding:

Last month, company raised Rs. 106 crore in pre-IPO placement, at Rs. 178 per share, from South Asia Growth Fund, representing 6.2% pre-IPO equity. This along with Rs. 250 crore fresh issue proceeds will finance:

1. Rs. 48 crore of part debt repayment, of total debt of Rs. 297 crore (30-6-19)
2. Rs. 184 crore towards greenfield injection moulding plant for pipes and fittings at Telangana
3. Rs. 82 crore to upgrade existing plants
4. balance for general corporate purposes

Promoters will sell part stake, trimming their shareholding to 65.8% from current 90.1%. From the OFS proceeds of Rs. 250 crore, promoters are required to repay Bonds of Rs.192 crore of group entity, Express Infra Projects, over the next 2-3 weeks, failure of which may lead to re-creation of pledge on their 35% shareholding in the company (on total diluted basis) and provide for a non-disposal undertaking on 16% equity shares, which may adversely affect share price of this company (as recently observed for Sterling and Wilson), given the quantum of stake involved. Moreover, another group entity Arena Enterprise has Rs. 146 crore loan from Standard Chartered Bank which may prove to be a liability on the promoters. In addition to this, another legal case involving Rs. 905 crore claim on promoters, is also appearing in contingent liability, which may be fatal if the outcome is adverse. 

Financials:

Company’s FY19 revenue grew 19% YoY to Rs.1,572 crore, with geographic split being 39% from north, 27% south, 23% west and 11% east. EBITDA grew 15% YoY to Rs.193 crore, leading to EBITDA margin of 12.3%, while PAT growth was slower at 13% YoY to Rs.83 crore, translating into net margin of 5.3%, down from FY18’s 5.6%. Q1FY20 revenue grew 16% YoY to Rs. 380 crore, with EBITDA margin strengthening 470 basis points (bps) YoY to 14.0%, as against 9.7% of EBITDA margin in Q1FY19. While 160 bps of this improvement can be attributed to declining crude prices, a major input cost, balance 310 bps jump just before IPO, does not instill confidence, given no strategic overhaul. While company attributes this to product mix changes, share of low margin UPVC polymer has remained constant at approximately 73% of revenue for the past few years. Similarly, company’s EBITDA margin had improved from 9.1% in FY16 to 12.3% in FY17, when it had previously filed for IPO in Sept 2017 (which was not launched despite SEBI approval).

Coming back to Q1FY20 numbers, as debt declined, interest expenses fell to Rs. 7.4 crore in Q1FY20, from Rs. 9.1 crore in Q1FY19, leading to Q1FY19 PAT of Rs. 9 crore tripling to Rs. 27 crore, PAT margin jumped to 7.0% in Q1FY20 from 2.7% YoY, translating to Q1FY20 EPS of Rs. 2.96, as against Rs. 9.26 for FY19.

As of 30-6-19, company’s net worth stands at Rs.428 crore, with net debt of Rs. 285 crore. As debt is partly repaid and equity expands via fresh issue, current debt-equity ratio of 0.7:1 will reduce to a more comfortable level of 0.3:1. Company’s working capital management is healthy, with both inventory and debtors outstanding being less than 2 months each.

While Q2 is seasonally weak, ~50% of input costs are denominated in USD. With rupee depreciating, strain on margin may continue into Q2 & Q3 of FY20. Since company’s effective tax rate (25% in FY19, 22% in FY18) is lower than marginal rate, it is unlikely to derive benefit of lower corporate tax rates. However, if the greenfield Telangana facility is established in a wholly owned subsidiary (matter under discussion), that unit may attract lower income tax liability.

Valuation:

At Rs. 178 per share, company’s market cap will be Rs. 1,958 crore, with EV of Rs. 2,200 crore. Its valuations are in-line with peers, leaving nothing on the table for prospective investors, as seen from the below table:

^As of 30-6-19 for Prince

• Astral Poly has the highest market cap in the sector peers, given its presence in adhesives segment and high shareholding of funds and portfolio managers.
• Supreme Industries, a diversified play including consumer goods, enjoys high EBITDA margins and RoE, negligible debt, which justify its premium valuation multiples.
• Jain Irrigation, once a poster boy for the sector, has been grappling with liquidity issues and high leverage, making investors uncomfortable with the stock, as rightly reflected in its low earnings multiples.
• Finolex Indutries is ruling at same valuation multiples as Prince (both on EBITDA and PE basis), despite its topline being nearly double of Prince, backward integrated facilities with material cost significantly lower at 62% of revenue vis-à-vis 72% for Prince, leading to sector-leading margins (20% EBITDA, 12% net margins). Due to cash-rich balance sheet, Finolex’s RoE is the lowest among the peer set, while Prince, with 0.6:1 debt equity ratio as of 31-3-19 has helped it trade on equity, leading to high RoE optically, despite low operating margins. Infact Prince’s EBITDA margin of 12.3% is lower than 14.0% margins for Jain Irrigation.

Thus, while topline growth visibility exists in, due to expected 28% capacity hike by FY21, for lower profit margins, company is expecting same valuation multiples as peers  today, making the issue fully priced. Company accounts for barely 5% of the Rs. 30,000 crore industry, not giving any pricing power in its hands. Macro demand drivers such as Jal se Nal scheme, Swacch Bharat, Smart Cities, affordable housing and rain water harvesting are encouraging, but industry is highly fragmented and competitive.

Scope for PE expansion in company exists only if financials strengthen from hereon. Till then it is better to wait a couple of quarters before building an exposure, as Q2 is seasonally a weak quarter. 

Conclusion:

Lower margins vis-à-vis peers, pressing need on promoters for OFS (to clear group debt) and not much being left on the table with respect to pricing make the issue less attractive. Hence, one can give it a skip.

The original post is authored by Geetanjali Kedia, appears on sptulsian.com and is available here.