Verdict: Priced well
Ircon International is entering the primary market on Monday 17th September 2018, with an offer for sale (OFS) of up to 99 lakh equity shares of Rs.10 each by promoter (Government of India), in the price band of Rs. 470 to Rs. 475 per share, with a discount of Rs. 10 per share for retail category. Representing 10.53% of the post issue paid-up share capital, total issue size is Rs. 467 crore at the upper end of the price band. Issue closes on Wednesday 19th September and listing is likely on 28th September.
Ircon International, 99.69% subsidiary of the Government of India, is an engineering and construction company (EPC) specializing in infrastructure projects (railways, highways, bridges, flyovers, tunnels, aircraft maintenance hangars, runways, commercial and residential properties etc). Company’s key focus is the railways vertical accounting for two-thirds of its topline. Besides providing EPC services on fixed-sum turnkey and item-rate basis, company also executes infrastructure projects on build, operate and transfer (BOT) mode. As of 31-3-18, its order book of Rs. 22,407 crore (of which 93% domestic, 87% from railways) is very healthy, given 19% YoY growth in order book in FY18, as well as it accounting for 5.5 times FY18 revenue of Rs. 4,000 crore, providing good revenue visibility.
Over FY13 to FY17, company’s revenues have de-grown from Rs. 4,294 crore in FY13 to Rs. 4,028 in FY18, while net profit has halved to Rs. 412 crore in FY18, from Rs.805 crore in FY13. This is attributable to the sole reason of declining share of higher-margin foreign orders (in Malaysia, Sri Lanka etc.) post FY15, denting margins substantially, from a peak of 28% EBITDA margin in FY14 to just about 15% in FY18. Since contribution of foreign projects has dropped materially, EBITDA margins in the mid-teens is the new norm for the company now.
Nevertheless, since FY16, it has managed to increase topline, from Rs.2,500 crore in FY16 to Rs. 4,000 crore in FY18, on back of healthy domestic order wins. 69% of FY18 revenue came from railways, 6% from construction of highways and roads, 5% from railway electrification and siding. It has completed two BOT projects, while another will to get operational (toll-based) by December. On 31% annual revenue growth in FY18, EBITDA grew 13% YoY to Rs. 634 crore, while net profit rose to 7% YoY to Rs. 412 crore in FY18, leading to an EPS of Rs. 42, on equity of Rs. 94 crore, which contracted pursuant to buy-back of 49 lakh equity shares in Dec 2017, at Rs. 386.72 per share, to utilize surplus cash in the books. As of 31-3-18, company’s net worth stood at Rs. 3,762 crore, resulting in BVPS of Rs. 400. It has total cash and equivalents of Rs. 4,900 crore, which, net of debt of Rs. 3,200 crore (explained below) is Rs.1,700 crore or Rs.180 per share.
Railway Land Development – drift from core activity or risk-free income source?
While company was debt-free all these years, in FY18, it diversified into commercial development of a railway plot, of nearly 12 acres in Bandra East (near BKC), Mumbai, on an experimental basis, with one-of-a-kind tri-partite arrangement between Indian Railway (owning the land), Indian Railway Finance Corporation (IRFC, financing the project) and the company (executing the same). For this, a loan of Rs. 3,200 crore has been secured from IRFC, with the company being ring-fenced from debt servicing and repayment obligations (which rests with IRFC). While this is a drift from core operations, company will get 8% of the proceeds of land development for providing managerial inputs (without deploying any capital). It remains to be seen if this divergence will turn out to become an attractive source of risk-free income for the company.
Objects of Issue and Shareholding Pattern:
Since the IPO is a 100% OFS, no proceeds will flow into the company. Govt. shareholding will decline to 89.18% post listing, from current 99.69%, while IRFC will continue to hold 0.26% and Bank of India 0.03% stake in the company. These two are shareholders in the company since 1992, pursuant to company’s listing on the bourses then, where shares were offered through basket and not via an ‘initial’ public offering.
At Rs. 475 per share, company’s market cap will be Rs. 4,467 crore, with enterprise value (EV) of Rs. 2,760 crore, leading to PE and EV/EBITDA multiples of 11x and 4.4x for FY18, respectively. On FY19E basis, these are 10x and 4.0x respectively, which is seen attractive. While there are no listed railway EPC players, company can be broadly compared to road companies like Dilip Buildcon, KNR Construction, J Kumar etc. which may earn higher operating margins and RoEs of close to 20%, but given high debt levels of some, net margins are low, coupled with higher multiples, both on the PE (13-18x on FY18) and EV/EBITDA (5-10x on FY18) side. Thus, Ircon, along with the Govt. Ministry, has paid heed to declining operating margins, divergence into non-core operations as well as volatile secondary market conditions while pricing the issue.
Company’s FY18 reported RoE is 11%, which is quite low, as 20% of PBT is derived from treasury operations. However, company wants to conserve cash, as order execution gathers pace in the future and it is also hopeful of order wins internationally. Another stated object is to go asset-light (monetization on the BOT side), which however appears contradictory to the land development deal with railways.
Given reasonable pricing, one can apply in the IPO, from a listing gains perspective. Over the long term, one needs to evaluate quarterly financial performance once the stock gets listed.
Grey Market Premium (GMP) of Ircon: Grey Market Premium of Ircon is an unofficial figure, against guidelines of SEBI. We strongly recommend investors against following the grey market premium. To know more about grey market premium and how it operates, read the article "IPO Grey Market Premium" in Pathshala column.
Disclosure: No interest.