Investors can avoid the IPO of Prince Pipes and Fittings. This is considering the availability of listed peers — who enjoy greater market share, more diversified product portfolios and better financials — at lower valuations. That apart, a low pricing power exposes Prince to volatile margins, given its high raw material costs, interest rate and forex risks.

The issue, opening on December 18, is for ₹500 crore. It comprises a ₹250-crore offer for sale by the promoters and a fresh issue of ₹250 crore. At ₹177-178 a share, the company is valued at 20.4- 20.5 times its pre-issue FY19 earnings. Considering the dilution in EPS on account of the fresh issue bundled in the IPO, the P/E shoots up to 23.4 times. Its peer Finolex Industries is trading at 18.8 times its FY19 earnings. Supreme Industries, with a broader product portfolio, is trading at 32 times its FY19 earnings.

Business operations

Prince has been in the business of manufacturing polymer pipes and fittings for 30 years, and is a popular brand in the North and the South. It has six manufacturing plants across the country and a distribution network encompassing 1,151 distributors, 257 wholesalers and retailers and 11 warehouses.

In FY19, about 42 per cent of the company’s revenues came from the plumbing segment. Other major segments were Irrigation, and Soil, Waste and Rainwater (SWR), contributing 31.3 and 26.5 per cent, respectively. Between FY17 and FY19, the company’s revenue grew at a compounded annual growth rate (CAGR) of 11.8 per cent to ₹1,560 crore. However, profits grew at a CAGR of just 6 per cent over the same period, attributable to forex fluctuations that hit operating margins, and higher finance costs.

The business segments that Prince caters to do not have a very promising growth outlook in the near term. A CRISIL report estimates the Irrigation and Water, and Supply and Sanitation industries to grow at a CAGR of 8-9 and 9-10 per cent, respectively, from FY19 to FY24, resulting in a growth of 12-14 per cent in the plastic pipes and fittings industry. However, we see the current economic challenges not supporting double-digit growth for the industry, at least for the next two years.

Also, given that there is stiff competition among players in this space, any recovery of demand in the real estate or irrigation sectors will see all players compete for it. This will not leave much on the table for Prince, which has a market share of just 5 per cent in the plastic pipes industry. The top players are Supreme Industries (11 per cent market share), Finolex Industries (9 per cent), Jain Irrigation (8 per cent) and Astral Polytechnik (7 per cent).

There is no visible upside for Prince’s market share in the near term unless there is some industry consolidation. Further, the lack of barriers for new entrants and the existence of duplicate products pose a downside risk to the existing market share. The listed peers of the company are faring well not just in terms of market share, but in other financial aspects as well.

Weak margins

While peers in the plastic pipes industry enjoy margins in the range of 14.4 to 19.5 per cent with diversified product portfolios and better inventory management, the operating profit margin for Prince is lower — at 11.8 per cent (in FY19) — due to its relatively high exposure to the agriculture business, where margins are low (31 per cent of the total revenue in FY19).

Though the company has optimised its logistics costs with strategically located manufacturing plants, it does not help much on the margin front. This is because raw material costs that constitute a major chunk of the overall costs for the company are highly volatile (plastic components, where the price is linked to movements in crude oil in the international market).

Also, a market share of just 5 per cent, and the existence of too many players (including unorganised) in the industry, lead to a very low pricing power for Prince.

Forex fluctuations

The company’s business model also exposes it to heavy forex risks.

While on the one hand foreign currency borrowings constitute 7 per cent of the overall borrowings (as of June 2019), on the other, the company relies extensively on imports for its raw materials — 52.1 and 49.6 per cent, respectively, of the raw material consumed in FY19 and Q1 FY20, were imported. The company’s primary raw materials — UPVC, CPVC, PPR and HDPE resins, are derived from crude oil. While crude prices in themselves are volatile, the dependence on imports further adds currency-related volatility to Prince’s raw material prices.

Considering the fact that raw materials constitute 60-70 per cent of the revenues earned, any sharp spike in their cost could be detrimental for the company.

From August 26, 2019, the Centre has been imposing an anti-dumping duty on CPVC imported from China and South Korea (a provisional duty is being levied for six months). As of FY19 and Q1 FY20, about 8.9 and 7.2 per cent, respectively, of the pipes and fittings manufactured by the company were of CPVC. The anti-dumping duty is likely to dent the company’s margins further.


Debt burden

Prince has large outstanding borrowings, and a not-too-comfortable rating on its debt.

As of March 2019, its overall borrowings were at ₹251 crore. Of this, about ₹146 crore (58 per cent) were short-term borrowings. The company has a BBB+ rating on long-term debt and A3+ rating on short-term debt.

In FY19, its PAT margin stood at 5.3 per cent. The interest cover (EBITDA/interest expenses) was 5.3 times.

In the June quarter, the interest cover improved to 7.2 times, thanks to higher profits on the back of an improved operating margin. Given that the company is set to utilise ₹49 crore from the IPO proceeds to repay some of the outstanding debt, one can expect a reduction in debt (and finance costs) from the December quarter.

That said, upside risks to borrowings still persist. This is because the company is planning to set up a new manufacturing facility in Telangana. While the proceeds of the IPO set aside for this may cover 93 per cent of the estimated cost of the plant, any increase in the estimated costs will lead to a rise in debt.

Also, the vast spread of its distributors has slightly lowered its collection efficiencies. According to the June quarter numbers, about 5 per cent of the total trade receivables (of ₹191 crore) was reported as outstanding for more than six months. If the challenges in the economy result in a slowdown in receivables collection, it may see the company borrow more.