Analyising the life

It has been quite a while since I have had an opportunity to write anything. After a busy result season that finally seems to have got over this week, I wondered where exactly is this life heading. It seems like a different world when you enter into work life, a life so distinct that it almost does not connect at any point- a life that is forgotten and is left in history just to get dust settled to it.

I have been living such a life that I have not had the time to chat much with my close friends and considering that my best friends are planning / having intention of joining the same place, I seem to have some touch with them. With the rest, orkut proved to be of some value and gtalk is allowed. So I tend to catch up once in a while with all of them. I have a friend who is in the next building where I work and we have been working together for the same committee for two years in college, where interaction was almost two hours a day, but I have met him only a few time after joining work. Stunning what life gives you with minor adjustments to your life.

To say that you work here is clearly an understatement. There is this movie where I have watched only the ending... One of my corridor mates fav one.. a drug addict and he leaves it after going through hell. The ending is a beautiful one where he comes out of this and walks down the road with his head held high- facing a new life that is exciting and wonderful. That is how I see life today...You get up everyday for the work that you love most. Enjoy the work and try to remember a few of the good and bad things in life.

I dont know if there could ever be a follow up to this mail and this will remain hopefully one of the few personal ones I would ever write.

I dont intend to re-read what is written. With the results season just going out, life is back with an even better exciting prospectus.

Entertainment Industry Update

This note is a combination of some technical and fundamental side of the entertainment industry, which like the rest of the industries has had a strong correction in the recent slide. This is a continuation of my earlier article (http://mbmahesh.blogspot.com/2006/10/under-pressure-movie-theatres.html )



What is interesting is the selective discount that I see in this sector. It looks like I am missing some important point here. The correction for PVR and Inox is relatively the same, wheras the correction for Adlabs has been insignificant. The listing of Cinemas is quite new and though it has seen some correction, I am not able to distinguish the reason as it could be a factor of IPO get repriced in the market or it could be a normal correction as witnessed by the rest of the stocks. However, the point to be looked at is in Inox. I have been to all these cine theaters and am personally unbiased to all of them. The movie experience remains the same for all these and my friends and myself do not see any reason to have any loyalty to any one theater. Given this, why is there such a discount to Inox. The P/BV is on the lower side inspite of showing better ROE simply amazes me.

While there seems to be some reason, I am not committing that Inox is undervalued as the rest could be over valued and poised for a correction. The reason is because of something that I read in a recent analyst report, think it was Motilal Oswal. The case was in the Cement Industry and it focussed on the second rung cement companies and their expansion and EV/EBITDA and EV/Per Bag being on the lower side when compared to their larger peers and hence there should be a revaluation in this sector despite customs reduced to zero and on and on. What ultimately happened is something that we all are seeing today. The large cap cement stocks seem to have been at the receiving end more than the small caps cement stocks, something that can happen in the entertainment industry too. Hence the small disclaimer.

Is it really worth spoiling the party?

There was a recent ban in a college from all drinking.

Someone had to find the real loser in this recent directive. On the face of it, it did look like the students had the raw deal and the institution was probably effective in its order. Could this be true? After all, stopping people to drink does not look a good way to stop people from drinking.

Given the restriction, there was not a single person drinking near the party. The students did follow the rules there. However, the real drinkers were nowhere near and that is all. Instead, they started using the driveway, the lawns near the buildings, and the rooms that overlooked the party. The music was available with the booze and probably in a even more cozier environment. What else do they want? What it did do was the occasional drinker who spent most of his time dancing on the floor started to drink more as he had nothing else to do except watch the others dance (which did not happen either. The party proved effective only where there is booze around. Else, the number of people dancing on the floor dropped exponentially). As the directive was issued to prevent drinking and the serious drinkers are not going to be bothered with such rules who could be the cause of trouble in the first place, the directive hence was useless.

Given this, we need to find who lost in this: The social cause of entertainment to all of the students, dancers and drunkards inclusive and the economic benefit to the canteen department. We can check if the social cause is going to cause any harm to the studies cause an important stress reliever is being curbed and the second one is something that we can calculate.



While the margins are on the conservative side, I still see that there is a huge loss for the canteen department. The department, in the first place, employs more people during these days giving more employment -> more salary -> higher benefits -> better standards of living due to better consumption -> higher distribution of wealth from the 'have' to the 'have not'*. Is it right for the institute to do such a sinful act where such transfer of wealth is being curbed?


*Though the students do not have money either, they still earn much more to compensate for today's' expenditure.

ICRA Limited - Go Ahead

Issue Details

• No. of Shares : 25.811 Lakhs Shares
• Price Band : Rs.275 to Rs.330
• Issue Dates: March 20th to March 23th
• Issue Size : Rs. 71 crores to Rs.85 crores
• Market Capitalisation : 274 crores to 329 crores
• Sellers : IFCI,SBI and UTI
• Post Issue dilution : 74.19%
• Book Running Lead Managers: SBI Capital Markets and Kotak Mahindra Capital Markets

The company will have a preferential allotment of 2.889 lakh shares to Moodys and 9.06 Lakh shares as ESOPs to its employees.

Objectives of the IPO

• IFCI, their principal promoter is selling its stake in the company and exiting through this IPO completely.
  
• SBI is reducing its stake to below 10% as per regulations and SU UTI is also selling its complete stake in the company.
• Brand building through the listing as the company is not making any fresh issue for raising money in this offer.
• ESOPs to its existing employees and thus an exit route for them in case they would divest their holding.

Company Analysis

The company was established in 1991 for providing credit rating with a tie-up with most of the major financial institutions in India. It has a tie-up with Moody's, a subsidiary of Dun and Bradstreet, who also advice on the Technical part too.

ICRA subsidiaries provide consulting, technology support, outsourcing facilities and information based services. The services mentioned is largely done with its subsidiaries: IMaCS, ICTEAS and ICRA online.

The company does other types of innovative ratings too like corporate goverance, project finance, mutual funds etc.

Some observations of the business model:

• The rating business derives more than 50% of the total income for the company and this is a strong segment as the company has a good brand name to generate business
• It has a solutions business segment that is deriving revenues of more than 15-20%. However, the target segment is still looks a bit hazy for a Credit Research Agency (CRA)
  
• Its CAD services is still a puzzle to me and the website drives too small income in the current stage.
• The information services segment is currently too small in its revenue mix. However, the company must understand that this is one of core work of a CRA. Its ability to derive strong brand name will depend on the reports that it comes out regularly. It must also understand the segments where there is income to be made. I am not too clear in a maritime institution rating, segments where the growth seems to be limited.
• There royalty payments are also on the lower side to Moody's, something I actually feared in this IPO. There are hardly any significant payments to Moody's apart from the dividend payment to them.
  

Industry Analysis
This is a regulated industry with only 4 players. Crisil, ICRA, CARE and Fitch being the largest.

Strengths

• This is a regulated industry and hence there are huge entry barriers. However, this industry also requires huge investment in knowledge and hence investment in industry research is a constant requirement. CRISIL has been a leader in this segment with its well respected industry reports.
• Most of these agencies in India have a foreign partner who can bring in the much needed expertise to build a strong reputation in India.

Weakness

• The industry revenue model is different as the average realization looks to exceed 365 days
• Attrition levels at more than 22% for a company like ICRA. It is surprising for such a company with such high levels of attrition. The only plausible reason could be the pay being just not competitive to its competitors.
• The industry has not been witnessing any major growth in the number of debt issuance over a 3 year basis. The cAGR on a 2 year basis is just above 7% though the average issuance has grown by 23%.

Opportunities

• The Industry is extremely dependent on a strong debt market. Given the nature of bank's role in Indian Debt Market, issuance of securities is far lower in number leading to an inefficient market. However, with growing funds available in the longer term in the form of Insurance and Pension funds we could see an improved market in the near future.
• The government is playing an active role in ensuring that the debt market is improved. It has, over the period, issued guidelines on compulsory rating and has gone a step further with the necessity of dual rating.
• Barring Korea and Malayasia (>50% of GDP) which have debt markets controlling credit, India is still at an abysimal 5% of GDP.

Threats

• Bank plays an important role in mobilizing the savings of the country. Hence, it role in controlling the growth of Credit Rating Agencies(CRA) is significant. With the introduction of Basel Norms, we could see an increase in the role of CRA.

Financials

• The company generates over 85% of its total revenues from 3 business units. Rating services:55%, Consulting:17-20%, IT Based Services: 14-15% and the rest is from research and outsourcing. The company has a good revenue mix in ratings revenues. An average of 30% comes from corporate and infrastructure ratings, 50% from financial companies and the rest from structured finance and project financing.
• The biggest cost is in personnel cost at about 40-44% of the total revenues followed by administrative expenses at 10%.
• Quality of Debtors is still a question as the company has close to 25% of debtors who have do not pay for more than 6 months.
• There are tax suits against the company. Service Tax of around Rs. 22 Lakhs and IT of 2.44 Lakhs
• The company has significant investments in Mutual Funds, Debentures etc as this currently contributes close to 7.5% of the total revenues for the company.
• Book Value for the company: Rs 118
• Annualised (Expected) EPS: Rs.17.5 (Given a discount of Rs. 0.25 ) and Diluted EPS (Annualised and Expected) :Rs. 15.6
• 
• RoE: This has been consistent at approximately 13% barring one year at 9%.
• The Net Profit Margin for the company has been increasing and is currently above 35%, indicating a strong pricing model.The companys' ability to use its reserves is very impressive given its ability to increase profits over the cost of maintaining in the form of reserves over the years (Barring 2005 which saw a decline in profit growth due to an abnormal increase in personnel due to revision of salary and administrative expense).
• The capital infusion of the company is unlike the other IPOs that I have seen in the recent past. The fresh infusion for the company has been done at reasonable prices. There was an infusion of equity in 1997 and 1999. The prices has been at Rs.60. The price growth is similar to the business growth at 21% on the issue in 1999 and 16% in 1997
• The company is a regular dividend paying company. The dividend rate exceeds 20% for the past four years. The company is able to make full utilisation of its reserves barring one year in 2003 when the incremental profit generated was less than the RoE for the previous year.
• The cash from operations generated has been not been that strong over the years. The CAGR over the past five years in Cash from Operations is 12% and this could be a result of the revenue mix for the company.
• As the subsidiary companies are less than a couple of years, no individual valuation of these companies has been done (consolidated statements have been taken into valuation)

IPO Details

The comparison is done only with CRISIL, as it is the only competitor listed in this segment.

• The P/E is in the range of 21.33 to 23.41 with a Dividend Payout approximately 20% when compared to CRISIL P/E at 40 and Dividend Payout at 40%.
• The P/BV is in the range of 3.4 to 3.73 with a RoE approximately 17% when compared to CRISIL P/E at 9.15 and RoE at 19.5%.
• The P/Sales is in the range of 5.7 to 6.22 with a Net Profit Margin approximately 37% when compared to CRISIL P/Sales at 11.21 and Net Profit Margin at 21.12%.

Summary and Points to Ponder

Here is a credit rating company and they have recently started a new initiative of rating Equity IPOs. As a company that is providing that service, would one not expect to rate their own company given that the concept is new and not too many companies are willing to rate their IPOs in the first place? I would have liked to see this company actually do a credit rating of their IPO and state if the offer price was good or not! Though they could have not done it by themselves, they could have atleast asked the other credit rating agencies to do this.

The IRR for Moodys in its investment at ICRA is at 27%. Looks good for an investment across 7 years.

The report on the industry is extremely poor,vague and largely irrelevant to the nature of business that the company is involved in. Consider IT/ITES as a segment in which the company has some exposure to. The prospectus touches the entire industry and the growth as a whole rather than looking at the area in which the company is concentrating its revenues or the growth of that segment in the total IT/ITES arena.

One of the critical requirements of the company that its boasts is its personnel. Surprisingly, this is also mentioned as a biggest risk that it is facing given the attrition levels of more than 22%.

When I saw the directors salary, it was pretty unimpressive and thought the directors were equally in a bad footing with this company. The main directors were getting an annual salary approximately 13-18 Lakhs.However, if one goes to the total take home, it is a whopping Rs.50 Lakhs. The perks (exceeding 30% of the total take home) for being in this company too attractive for the top management to leave this company.

It is a norm from most companies to have a mid year dividend declared to its existing shareholders so that the new shareholders do not enjoy the benefit of the company's existing profits. Surprisingly, this company has not done nothing of that sort. Also, given that the principal promoter, IFCI, was leaving them, thought it would be good to have a dividend declared, a nice parting gift :)

Given all this, I still like the company as it trades at a discount to CRISIL on almost all counts. However, CRISIL has a different business model (with its recent acquisition of Irevna and Crisil Newswire-I think it is still not sold, though not sure). If the company is able to establish a strong business model and generate a good brand through its consultancy/research reports, able to reduce its attrition, this company looks good to me.

Despite this, I would give a go-ahead to invest in the company though one may not see significant institutional investment as the size of the IPO is too small for them to make an investment!

Sakthi Sugars - Promoter Buying

The Vice Chairman and Managing director has bought close to 0.1% his total outstanding shares, an announcement in todays NSE Website section. He looks like a person who is positive in this segment that has only seen a downside over the past two-three months.

Power Finance Corporation - Raising money for Branding

Well, an IPO for no reason. The GOI feels that the publicity that the company is getting till date is not sufficient and the stock exchange would provide this solution. That is the objective for the IPO, raise money but no definite use from the funds raised. It also says that the funds will augment its capital base.

Issue Details

Issue Size : Rs. 856 crores to 997 crores
Issue Date :January 31 to February 6
Price : Rs.73 to Rs.85
Post Issue Equity Dilution: 10.22%
Book Running Lead Managers: Enam, ICICI Sec, Kotak

Company Background

The company's primary activity is to channel savings into power generation. It was started in 1988 and have most of the clients in this sector under their fold.The company's financial products and services include financing in the form of rupee term loans, foreign currency loans, bridge loans, short term loans, transitional loans, bill discounting, equipment leasing, buyers’ line of credit, loans to equipment manufacturers, line of credit for the import of coal, debt refinancing, asset acquisition schemes, study assistance and non-fund based products such as guarantees, letter of comfort and management advisory and consultancy services. The company is involved in AG&SP program as well as the UMPP program. The company has been awarded a "Mini Ratna" status giving freedom to run its operations. The company has assets exceeding 40,000 crores.

Objective of the Issue

The company intends to use this capital for raising its equity base. Also, the company believes in using the stock exchange to increase its publicity and could also serve to liquidate GOI share at a latter date.

Strengths

• There is extensive knowledge that has been gained by the company in this sector. The company share in this business is more than 10-20%.
• The business is regulated by RBI and if the company has to follow the guidelines from RBI as a part of NBFC, this can reduce their exposure limits to certain entities.
• The current gross NPA is 0.23%, extremely low. However, we need to look at the debt books to see how much is actually given provision for.
• It is trying to diversify its client and product portfolio (in power)
• It is de-risking its lending portfolio by co-lending with various institutions.
  

Weakness

• Single product portfolio and is extremely dependant on state electricity boards for its revenue.
• There is a client concentration risk. The top 10 clients and groups accounts to 45% and 67% of the borrowing. Also, some of them are loss making entities.
• The nature of loans has been clearly mentioned. However, certain risks include in the lending books. The nature/value of the collateral, ability of the state to back the loan in case of guarantee (currently 45% of the loan book).
• There is a negative cash flow in business.
• The NIM is reducing and is currently at 3.37%.
• The company receives subsidy from the govt. under the Accelerated Generation and Supply Program in advance on a NPV formula. This can create losses incase there is some change in the factors.
• Some of the projects such as Sasan, UMPP, has been awarded to Lanco at extremely low price. The viability of such a low price is still questionable. If they fail to get the financial commitment for their project, this can delay the implementation of the project. This can delay the execution of the project.

Opportunity

• The opportunity mainly is in the largely unment demand that currently exists in the system. On an average, we have a unmet demand of around 8% and 12% in peak demand.
• The company is starting a venture capital fund for investing in power generating companies.
• The current Electricity Act gives much more freedom for regulators to fix tariffs.
• Most of the funding from World Bank and ADB is going towards restructuring the SEBs. Once we significant reduction in T&D losses, we can expect this industry to invest in generation.
  

Threat

• Removal of SLR Bond status, tax free bonds can affect their borrowing program.
• The government has largely failed in keeping its commitments in implementation of its program.

Financial Analysis

• The company has a strong disbursal growth at over 21% CAGR in the past five years.
• Book Value : Rs. 66.68
• RONW: 13.06%
• AG&SP forms 24% of the loan portfolio.
• The company's subsidy from the government has remained at similar levels inspite of growing disbursements. This could indicate efficiency in its collection.
• The current assets is at 0.95.
• The reserves are currently growing at 14% and the total equity employed is increasing by 11%. This is quite healthy considering the income growth of the company.
• The company is currently maintaining less than 1.5% in reserves for bad debts. That is quite aggressive.
• The interest cost is increasing by about 12% CAGR basis. Again, the company has done well here. Only 10% of the loans are short term in nature. This implies that the company may not have an duration mismanagement as much as a bank that borrows short to lend on long term.
• The net profit growth is approximately 8% CARG in the past four years. However, this has been extremely erratic with the 2003 being one of their best years. Post this, the operating profit has been declining.
• The cash from operations has also been affected for the same as mentioned in the previous point.
  
• The company primarily raises money from banks/financial instutions and open market (~75-80%).
• The company has lowered its foreign currency risk by lending and borrowing in a similar currency.
• Its dividend policy is quite insistent though it is a regular dividend player
• The per share of PTC for PFC holder is approximately Rs. 0.75 . If this is discounted from the current share price, the EPS will fall further

IPO Pricing
P/E - 7.7 to 8.97.
P/BV - 1.15 to 1.34

I have not made any comparison due to lack of a proper alternative comparable company in this industry.


Interesting Thought and Summary

• The company's outstanding loan book is at Rs.38,562 crores. The IPO will raise only 1000 crores in the higher end. What is the company going to do with such a paltry amount? A company that has a very strong credit rating can raise funds at one of the cheapest rates and there is no requirement for the company to come out with this IPO.
• One of the directors of this company is my institute head too!
• Though there is nothing to lose for the company in this IPO, I would still invest considering the sector attractiveness only.
  

Cinemax Private Limited- Disappointment

Having read the industry recently, I started with a hope that this would be a good one. It definetely is, but couple of transactions that the company has undertaken last year make me feel uncomfortable on the nature of the company policies. Anyways, here is a brief of the IPO

Issue Details

• Issue Size: Rs. 120.42 to 138 crores
• Fresh Issue: 94.5 crores to 108.5 crores
• Existing Shareholders: 25.92 to 29.5
• Price: Rs.135 to Rs.155
• Post Issue Dilution : 31.86% of the paid-up capital
• Book Running Lead Managers : Enam Financial Services, Eidelweiss Capital, JM Morgan Stanley and Ambit Corporate Finance
• Issue Period : January 18, 2007 to January 24, 2007

Company Analysis

The company has revenues coming from diverse streams. Theatres or Movie screening, construction (commercial and retail) and also in gaming.The income from construction is not regular. The company has a history in construction with more than 5 million square feet constructed space till date. In movie screening they have more than 9000 seats across 10 theatres. They have a very significant presence in Mumbai with 9 theatres and 21 screens. The company has two important subsidiaries that is involved in constructing and the other in maintaining multiplexes.

Objects of the Issue:

The company is raising the money for funding its expansion and also an exit option to its existing shareholders. The total cost of expansion of new theatres is expected to be Rs. 110 crores with close to 140 screens in the next two years. There is hardly any investment made from existing capital. Probably, since most of the reserves have been converted to bonus shares, they found it difficult to raise cheap money!

The company technically could raise more money if it gets subscription at the higher end of the price band. Now, it is quite disappointing as most of the expansion is happening from new shareholders. The company will utilize all the funds by 2008.

SWOT Analysis

Strengths

• The company is focussed in increasing multiplexes across the country with close to 100 screens in the next couple of years from the current 33 screens. This will increase the seat size by 3 times.
• The biggest strong point for the company is the current location of its theatres. They are mostly centrally located. Also, unlike its competitors, they have 8 properties with 7 in Mumbai giving free rental cost (only opportunity cost involved).
• The company has a strong experince in building and construction. Also, there is a brand of 'Cinemax' to be considered. I do not know if can be translated into revenues. They have a premium theatre too. The utilisation of this could probably indicate the pricing power for the company.
• The companys's average ticket size is still above Rs. 100 but with the introduction of cheaper tickets, this is bound to reduce.

Weakness

• High dependance on distributor for showing films in every theatre and for every film. This gives a very unstable business model when one compares with Adlabs which are in the other end of the value chain.
• The biggest weakness for any investor, which is mentioned rightly in the risk factors is the capital structure. It is so unfair for the retail investor. The bonus issue last year has diluted the earnings in a very big game.Further, there is also an issue of a preference share issue at no cost. This has diluted the earnings even further.
• The promoters have been investing in multiple business' streams. This is an area of concern as it looks like the promoters' are willing to enter into many areas with a motive of profit. The promoters have more than 25 different companies, partnerships etc and only 4 are operational. There are too many construction/building companies. I do not understand the existance of such companies.
• Alternate mediums like DTH, DVD or VCDs can become popular making the business unattractive.
• Existing competition is with Adlabs, Inox, PVR cinemas and Shringar. Adlabs is expected to be the largest player with a strong backward integration. Given this level of competition, efficiency or utilization rate is one of the key parameters for success. There is no strong pricing power with any of these competitors. Given, that they can't reduce the price to a 'non multiplex' rate, the downside pricing to increase volumes is lost too. Also, the competitors are expanding very aggressively. Incase, they are represented in most areas, specially in prime areas, that Cinemax is operating, this can lead to loss of business.
• Currently, the projection medium is traditional. Newer digital forms can force the company to incur substantial capital expenditure.
• The issue size exceeds the current networth by 5 times. That is a lot of funding under the present capital structure.

Opportunity

• There is a big demand for theatres across the country given the poor quality currently in existance across places. Also, most theatres are willing to open in Sec B and C cities and move into small towns too.
• They are willing to work on different model for pricing tickets depending on time/day
• The contribution of Multiplexes has been increasing constantly and is close to 20%

Threat

• Success of theatres are movie specific and this can tilt towards failure with poor movie scripts.
• Alternate sources of entertainment such as DTH, DVD can lead to lower sales.
• Removal of entertainment tax benefits can risk profitabilty if lower pricing power is not passed to the customer.

Financial Structure

• On the capital structure : The capital contribution by the promoters has been for 70 Lakh shares. The rest 1.5 crore shares has been in the form of bonus shares. This has been issued quite recently-July and August 2006. With the current issue of 89 lakh shares, 70 lakh shares represents a fresh issue. This will be 25% of the post issue of the share capital.The preference share issue to the promoters and persons acting in concert is a source of concern as this was issued at no cost to the promoters.
• There is a small taxshield available in the form of goodwill in the balace sheet created out of amalgamation of group companies. This is to the extent of approximately 5 crores across years.
• D/E of the company is on the higher side : 2.2 ( Tax provisions benefits taken as a part of equity)
• The working capital requirements for the company is increasing at more than 55% CAGR. Given the nature of business (cash from tickets) the company's has a huge growth in working capital requirements.
• As with any other multiplex, there are primarily three sources of income: Ticket Sales (60-70%),Food and Beverage(15-20%), Advertisement. In the case of Cinemax, this works to 80% (on the higher side), and the rest is with food and beverage. Advertisement revenues is very marginal(~5% but contribution is increasing). The sales from tickets has been growing at 30% p.a.
• Project income is something erratic for the company and hence difficult to estimate revenues from this business. It contributed to 55% of the revenues last year. However, this year it is less than 20%. Gaming income is still insignificant for the company (~1%)
• However, on the cost structure of the company, the distributor cost contribution is about 25% and this has reduced from last year at 40%. Entertainment tax has reduced for the company mainly due to tax benefits enjoyed by multiplex.Employee costs have risen in the last six months (~8% of the cost)
• The company has not declared any dividend till date. However, it has compensated with a huge bonus issue.
• The ROCE is about 40% significantly higher than its peers. This will fall down to 28% after the issue.
• The current EPS is at Rs. 2.02(annualised). This has dropped from 3.57 last year. The only reason for it being the huge dilution of equity in the month of August. If one removes project income and depreciation written back, the current EPS is at 1.56 wherars it was 4.07 last year.
• Given the erratic nature of the project income, the Cash from operations is highly irregular. However, the current business is generating strong cash for the business.

IPO Pricing

Relative Valuation : (Taken Post Issue Capital and on the lower price band)

Price/Sales :6.46 and Net Profit Margin : 20%. Inox is trading at 6.34,Adlabs is at 12.5 and PVR cinemas is at 19.01

Price/Book Value : 10.58 and ROE:28% Inox is trading at 4.2, Adlabs is at 5.23 and PVR cinemas is at 2.95

Price/Equity : 66 times. This can go as high as 89 times if the benefits from the new theatres do not accrue to the shareholder in the next year.
Inbox is trading at 39, Adlabs is at 37 and PVR cinemas is at 61.86.


Managment

The management of the company is headed by the Kanakia family. A family held business from 1984. The other members are quite impressive. They have a CA who is also a key director in other companies including Ashok Leyland, Gulf Oil Corporation, Ennore Foundaries etc. Another director is an independent director at L&T, Hindustan Motors, India Infoline etc.


Interesting Facts

It is interesting to note that the issue of 1.5 crore shares through a 'bonus issue' to the promoters. The lead managers have rated this as a risk factor, possibly on the basis of concern on management. Apart from this, the directors have a monthly salary of Rs. 2.5 Lakhs per month as salary and perks.

Each principal promoter will have a networth of close to Rs. 130 crores on the lower side. These promoters have increased their networth by 3 times from approximately 40 crores to 130 crores merely by issuance of bonus shares.

The company is pretty expensively valued when compared to its peers. I have not valued two of its important subsidiary because of the nature of disclosure. However, this could impact the pricing in a significant way. A big let down was on the pricing and also on the bonus issue by the company. I would not buy this stock inspite of the business being attractive.

Autoline Industries IPO - Go Ahead

After more than a week IPO is back in action. The first for the year is Autoline Industries Limited. For once, reading the IPO was very refreshing. A good insight into the automobile industry.

Some of the key issues for the IPO
Issue Size : 75 Crores
Period : January 8 to January 12, 2007
Price Band : Rs. 200 to Rs.225
Lead Runner: BoB Capital Markets
The company has been extended loans by BoB, a prime reason for being the lead managers for the issue.

Objective of the Issue

• The company is planning to upgrade, expand and modernise its existing facilities and desgn centre in Pune.
• The company is planning to enter into new products such as door assembly and contract manufacturing for heavy vehicles
• Building a new corporate office
• 'Long Term' working capital requirements

Sourcing of Funds

• The company is looking at an investment of Rs. 104 crores. The funding has been done as follows.
• 75% of the funding is done from this IPO. 8% through private placement. 17% from raising debt.

Utilisation of Funds

• Expenses on Construction / Upgradation / Modernisation : 72%
• Joint Ventures and Acquisition : 11%
• Working Capital : 11%
• Others: 6%

Strengths and Weakness for the Industry

• The industry is moving up in the value chain and also there is some element of scaling of business by existing players. This would help in driving the cost of manufacturing down.
• The after market is mostly held with unorganised players, with more than 65% share. This is a good opportunity for companies with scaling business to take advantage of price. However, increase in scale can lead to differential taxation nulling such benefits.
• Cost and quality advantage, esp in the export market, where India's contribution is increasing every year (CAGR >25% in the past 5 years).
• The industry is moving towards e-auction. This is a big danger for companies that are in contract manufacturing.
• There is a huge demand for cost reduction from suppliers. Also suppliers are engaged in active designing and the risk of performance is falling on automotive component suppliers.
• Consolidation in the industry leading to fewer players in the market. The same should start occurring in the component supplier in which scale is giving key benefits.

Strengths and Weakness for the Company

• The company is committed with this IPO fund deployment. The funding which is to be raised from debt has already been raised or commitment received from BoB and Kotak Mahindra Bank.
• 25% of the cost of the plan requirements has already been implemented with existing source of funds. The promoters have contributed to this significantly. This might be reduced with the money raised. However, I like the promoters commitment to the venture.
• The company has made some really strong predictions on its sales figures. 95% (almost on track 54% of the target sales figure reached in 7 months) for the current year. 140% for the next year and 20% the following year.
• The company is also looking at mass production as a method to reduce its cost. This will make them competitive and can increase volume in the long run. This would increase the dependence of its customers on the company.
• The company is moving up the value chain from being a mere manufacturer to be a part of the design team. The downside risk is the inherent problem with quality manpower. Its subsidiary company is involved in this venture and it is a reseller of a software and does CAD/CAM. The subsidiary company is planning to increase manpower. However, for a company which does not have a clear focus in this area, I still am not sure of the success of this venture. The company has a tie up with Detroit Engineered Products. This MOU seems to be a more successful idea than having a separate venture of its own.
• The company is also setting a state of art control tool room that provides testing facilities. The customers are unclear and though this contributes only 5% of the cost of funds required, utilisation is under doubt.
• The project expansion has taken the customer requirement in mind. The company has entered into some kind of contract manufacturing with the Indian subsidiary of Stokota, Belgium.
• The biggest weakness for the company would be client segmentation. With more than 80% of the business coming from a single client Tata Motors, the company is running a big risk.Though the company has a small benefit being a sole supplier to Tata Motors, this however is product dependant.
• The company's owners were more than willing to have the entire IPO handled by BoB, given that they have had very few issues last year. Merely being the bankers to the company, BoB was able to influence them quite easily for a complete issue.
• The company has been given a covenant of not declaring a dividend till it has an adequate current ratio of 1.33:1 and also the bank's permission.

Financial Aspects of the company

Networth of the company before the issue : Rs. 298 million
Net worth of the company before the issue : Rs. 373 million
Book Value : 42.49
EPS (Latest) : 15.95 (Annualised)
RoE : 25%
RoC : 8.4%

• The company has a employee manpower of 1588 and this is expected to increase by another 72. The incremental sales per employee is expected to increase by more than 75%
• The company has just started declaring dividends over the past two years (18% last year).
• The inventory is close to 15% of the sales, on the higher side.
• Significant cost include: Raw Material and Manufacturing Expenses: 90%
• In spite of huge investment in machinery to create scale benefits the depreciation cost contributes <2%>
• The interest coverage ratio is now close to 6 times and this can go down further with increased sales.
• The current CEPS for the company is around Rs. 14

The future financial projections can give the following EPS and the forward P/E for the company:



Relative Valuation

1. Price/Earnings: 14 times on the higher side and 12.5 times on the lower side. Rasandik is at 12, Jay Bharat Maruti is at 12 and Automotive Stampings is at 20
2. Price/Book Value : 5.29 times on the higher side and 4.7 times on the lower side Jay Bharat Maruti is trading at 2.5 times(RoE : >20%) and Automotive Stampings is trading at 2.7 Times (RoE : 9%) and Rasandik Engineering is at just 0.49 times (RoE : >20%)
3. Price/Sales: 1.19 one the lower side and 1.33 on the higher side Net Profit Margin of the company is 6.3% while that of competitors are Rasandik is at 6%, Jay Bharat Maruti is at 2% and Automotive Stampings is at 1.5%

Others

• The company has been receiving some funding from different entities in the past. The most recent one in August was at Rs. 130, a steep discount of 30% (lock in period is 20% 3 years and 80% 1 year)at the lower end of the issue for a company that is doing really well for the year and with clear plans for an IPO in place giving sight of exit options to the investor. Yet such a discount to the issue.
• Mr.Vikram Bhat, the chairman of the company has strong credential with the Monitor Group, Mahindra British Telecom and other entities of the Mahindra Group. Also the board is largely filled with non technical people and also a marketing professor from IIM A.
• The promoters networth would be close to 11 crores (on the lower side) with this IPO listing.One of the promoters of the company is a sitting MLA and also a former mayor of Pune. Surprisingly, the company does not look bureaucratic as a government institution The group has not ventured beyond this company. No company is sick though two companies of the two promoters are not doing any more business.
• The company is not facing any major litigation and also the contingent liability is on the lower side and more on export obligation commitment.

Pricing of the IPO

The company has priced its IPO between Rs. 200 and Rs. 225. On a relative basis and given sales projection the forward P/E looks very attractive for an investment in this company. However, the profits are dependant on two key factors: ability to meet its sales projection and its pricing power. With the product it has and the success of Tata Ace and Indica, the volume looks plausible. However, pricing and profit margins is still under threat. I have made some downward correction to the future margins. Given the strong RoE the Price/Book Value is attractive comparatively attractive to its peers. I would give a 'go ahead' to this IPO and a good investment for the future. There is a possibility of listing gains in this scheme. However, I would look at this stock for a long term rather than a short term story.