An expensive bet

IPO REVIEW

Nelcast isn't really a standout issue for investors to grab.

June 2007 is going to be a month that primary market investors will remember for long. Whether it is the mega DLF issue or the smaller issues, there appears to be a plethora of choices for investors.

Hustling its way through these big names is auto ancillary maker Nelcast. With an issue size of Rs 85- 96 crore and a price band of Rs 195-219, the pricing seems aggressive.

While there isn't anything fundamentally wrong with the business model, at a time when there is no dearth of choice, subscribing to it dosen't seem an attractive proposition .

Nelcast is engaged in the manufacture of grey iron and spheroidal graphite ductile iron castings. 
 

AGGRESSIVELY PRICED
Rs crore	FY07	FY06
Net Sales	305.8	236.3
Operating profit margin (%)	13.4	8.9
VALUATIONS	FY07E	FY08E
EPS (Rs)	11.6	14.5
P/E (x) @Rs 195	16.8	13.5
P/E (x) @Rs 220	18.9	15.1

The latter contribute 75 per cent to its revenues, and are used for auto components like carrier housings, hubs, spring shackles, etc in commercial vehicles and tractors. HCV's and tractors account for 80 per cent of its revenues.

At the customer end, while Tata Motors accounts for 24 per cent of its sales, Ashok Leyland and TAFE have a share of 16 per cent each.

Overall, the general trend of a shift towards multi-axle vehicles should benefit as the demand for iron castings for an average multi-axle vehicle is about 850 kg while that of a single axle vehicle is about 500 kg.

From the issue proceeds Rs 61.5 crore will be used in expansion and modernisation of the existing production facilities in Andhra Pradesh and Tamil Nadu. About Rs 25 crore would go towards incremental working capital requirement.

The expansion would increase the composition of the higher margin machined components from the current 10 per cent to 20-25 per cent over the next two years. Much of this would be exported. "Exports remain a key focus area and the proportion of exports to our revenues should increase from the current 10 per cent to 30 per cent by 2010," says PRK Reddy, deputy chairman, Nelcast.

Nelcast's top line has grown at a CAGR of 20.5 per cent over the past two years and 29.4 per cent last year. This can be explained by robust growth in its key user industries. Operating margins have risen 450 basis points y-o-y to 13.4 per cent in FY07 with power costs as a proportion to sales falling from 15 per cent to 12 per cent.

However, valuations are not compelling when compared with other auto component companies. Nelcast's IPO is valued at 13.45 to 15.1 times (lower-upper price) estimated FY08 earnings.

A premium player like Amtek Auto trades at a consensus P/E estimate of around 13 times while others like Amtek India (10.3), Subros (7.5) and Federal Mogul (11.4) get even lower valuations for FY08. Given the low entry barriers and the low technological skills required, the multiples look aggressive.

Issue opens: June 4
Issue closes: June 8