While integration benefits and likely improvement in demand are positives for Welspun Corp, any slowdown in key markets could mar prospects.
Most analysts have a buy rating on the stock, considering the current valuations (six times 2011-12 estimated earnings) and upside triggers from the core business, as well as the construction business. Key risks, according to a Citigroup Global Markets report, include global downturn (the US is a major market), over-capacity, forex and steel price volatility, corporate governance issues and impact on the balance sheet due to its diversification.
| VALUTIONS | |
| In Rs crore | Welspun Maxsteel |
| Equity value (A) | 945 |
| Welspun corp | 805 |
| Apollo | 140 |
| Debt (B) | 700 |
| Capital work (C) | 400 |
| Enerprise value (A+B-C) | 1,245 |
| FY12E Ebitda | 168 |
| Deal valued (EV/Ebitda) (x) | 7.40 |
| GOOD VISIBILITY | ||
| In Rs crore | FY11 | FY12E |
| Sales | 8,023.6 | 8,662.7 |
| Ebitda (%) | 16 | 16.6 |
| Net profit | 613 | 660 |
| EPS (Rs) | 26.8 | 28.9 |
| PE (X) | 6.5 | 6.0 |
| Source: Citi Investment Research | ||
The increase in the equity base (Welspun is to issue 58 million shares to Apollo in lieu of the Rs 1,300 crore investment) will result in 2011-12 earnings dilution of 18 per cent and the estimated earnings per share will fall by Rs 7.2. Meanwhile, Welspun will invest part (about Rs 805 crore) of the Rs 1,300 crore in its promotor group company, Welspun Maxsteel, for a 87.5 per cent stake.
However, considering the earnings of Welspun Maxsteel and the equity investment, the deal (see table) is valued at 7.4 times its enterprise value to operating profits (Ebitda), considered reasonable compared to the valuations of some of the listed companies trading at about seven times.
There are operational synergies as well. Akhil Jindal, director, Welspun Corp, says with Welspun Maxsteel starting production, Welspun Corp would be able to source raw material requirement internally. “We will save about $150 per tonne on imports, which translates into annual savings of Rs 675 crore on operating profit. Also, in the past, we were not able to acquire some large clients, due to a lack of captive raw material, which will be addressed now and help us expand,” he says. Within the steel space, the company has a vision to be an iron ore to pipe company. The integration will help the company at a time when it is expanding its pipe manufacturing capacity. It recently added 0.35 million tonnes of capacity to its current one of 1.9 million tonnes.
In addition, the company aims to focus on the infrastructure business. It earlier bought MSK Projects under its step-down subsidiary, Welspun Infratech, in which Welspun Corp holds 65 per cent stake. Welspun Infratech also holds a 21 per cent stake in Leighton Contractors India, considered a large player.
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According to the new deal, Apollo also plans to invest about Rs 675 crore in Welspun Infratech, which could help it fund its existing and future businesses. The deal will help both the business in steel and the infrastructure space, but analysts are looking for more information and clarity in the infrastructure business, given the cross-holdings among the companies. This is also a reason that most analysts have not included revenue from the infrastructure business so far.
Its core business, which is dependent on capex in the hydrocarbon sector, is expected to see some uptick in the coming months. “We believe a re-rating is in the offing, given demand-supply is tight, especially for high quality pipes. Also, global demand should pick up. led by increased E&P (exploration and production) activity, especially in North America and the Middle East. Welspun Corp’s core business remains strong, notwithstanding corporate governance issues,” say Garima Mishra and Saurabh Handa, who track the company at Citi Investment Research. The Securities and Exchange Board of India had earlier banned the company and its promotors from the bourses, alleging unfair trading practices.