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  • PROJECT ON “INVESTMENT IN IPO: AN ANALYSIS” Submitted in partial fulfillment of the requirements For the award of the degree of Master of Business Administration (2006-2008)
  • TABLE OF CONTENTS  ABSTRACT……………………………………………………2  INTRODUCTION ABOUT IPO………………………………..9 -EVOLUTION AND GROWTH OF INDIAN PRIMARY MARKET -REGULATORY FRAMEWORK -PROCEDURE FOR IPO -BUY BACK OF SHARES -ROLE OF INTERMEDIARIES -IPO GRADING  REVIEW OF LITERATURE  RESEARCH METHODOLOGY  ANALYSIS AND INTREPRETATION  FINDINGS AND CONCLUSIONS  SUGGESTIONS  REFERENCES 2
  • ABSTRACT This project gave me a great insight about the IPO and its Process. The purpose of this Project was to understand the IPOs that were issued in the last 2-3 months; buyback of shares; IPO Grading and Reforms in IPO Process. The IPO was an extensive learning experience in which I involved myself with the live issues hitting the market. I began my study by going through the SEBI guidelines regarding eligibility norms, pricing structure, requirements of the promoters and their obligations, post issue obligations, book building guidelines etc. I enhanced my understanding over IPO issues of various companies by going through their Bid-cum application forms and the Red-Herring prospectus, which contained all the information regarding the issue, purpose of the issue, all the financials and results for the past 3-5 years and many other details which are required by an investor for a sound analysis. Proper study of few IPOs has been done by going through their past financials, business structure, investments, expansion strategies, growth potential, valuations etc. The Project report starts with defining the various public issues with the need for the company to take out an IPO. It goes on further to explain the advantages of an IPO. It analyses in detail the Indian IPO Scenario. It explains the evolution of the IPO in India and explains how the scene has changed dramatically after liberalization esp. after the introduction of book building process. 3
  • CHAPTER 1 INTRODUCTION 4
  • A company can raise capital through issue of shares or debentures. The various types of issues are: Public Issue, Rights Issue, Bonus Issue, Private Placement and Bought Out Deal There can be two kinds of public issues, namely: • Initial Public Offer (IPO) • Further Public Offer (FPO) Classification of Issues 5
  • IPO An Initial Public Offer (IPO) is the selling of securities to the public in the primary market. It is when an unlisted company makes either a fresh issue of securities or an offer for sale of its existing securities or both for the first time to the public. This paves way for listing and trading of issuer’s securities. The sale of securities can be through book building or normal public issue. FPO Further Public Offers are issued by companies or corporate bodies whose shares are already being traded in the capital market and they are issuing fresh shares either to fund the expansion of their existing business or to invest into other business activities. Reasons for Going Public  Raising funds to finance capital expenditure programs like expansion, diversification, modernization, etc.  Financing of increased working capital requirements  Financing acquisitions like a manufacturing unit, brand acquisitions, tender offers for shares of another firm, etc.  Debt Refinancing  Exit Route for Existing Investors 6
  • Advantages of Going Public  Facilitates future funding by means of subsequent public offerings  Enables valuation of company  Provides liquidity to existing shares  Increases the visibility and reputation of the company  Commands better pricing than placement with few investors  Enables the company to offer its shares as purchase consideration or as an exchange for the shares of another company Disadvantages of Going Public  Dilution of Stake makes co vulnerable to future takeovers  Involves substantial Expenses  Need to make continuous disclosures  Increased regulatory monitoring  Listing fees and Documentations  Cost of maintaining Investor relations  Takes substantial amount of management time and efforts 7
  • 1.2 EVOLUTION AND GROWTH OF INDIAN PRIMARY MARKET. Early Liberalization Phase: 1992-1995 (Fixed Pricing) The initiation of the process of reform in India also would not have been possible without changes in the regulatory framework. The New Economic policy (1991) led to a major change in the regulatory framework of the capital market in India. The Capital Issues (Control) Act 1947 was repealed and the Office of the Controller of Capital Issues (CCI) was abolished. The Securities and Exchange Board of India (SEBI), established in 1988 and armed with statutory powers in 1992, came to be established as the regulatory body with the necessary authority and powers to regulate and reform the capital market. SEBI came to be recognized as a regulatory body for the capital market after the abolition of the CCI. The control on pricing of capital issue has been abolished and easy access is provided to the capital market. Initial Public Issue caught the attention of general public only after the success of Reliance, when millions of small investors made huge returns which were unheard of till then. Dhirubhai Ambani was the first promoter who raised huge amounts through the public issue route to finance large facilities. The issue process was smoothened, procedures were simplified and free pricing was allowed, although with certain restrictions, The Indian market had the concept of par value of equity shares, and anything above par was considered premium. The only companies that were allowed to come with premium issues were those, which had a three year profit-track record for the preceding five years. New companies without this record could float premium issues if their promoting companies had the same track record and they had to hold 50% of the post issue capital. Any new company floated by first generation entrepreneurs could only issue equity at par. There was no restriction about prices in a premium issue. The offer was always at a fixed price, whether premium or par. The companies had to appoint intermediaries like merchant bankers, registrars, bankers etc. Merchant bankers had the responsibility of fixing the prices, in consultation with the company, carrying out 8
  • with due diligence, preparing the prospectus (offer documents) etc. The prospectus had to be submitted to SEBI for getting scrutiny. The trend continued in the early nineties as many large projects were launched after the economy was liberalised. Many of these companies came out with public issues and the retail participation increased dramatically. But many of the companies which raised money during this period just disappeared without a trace. Late Liberalisation Period: 1996-2005 (Book Building) The late nineties and the first few years of the current decade did not see much activity in the primary market even though we saw a huge bull run led by technology stocks at the turn of the decade. The bad experiences of retail investors kept them away from the market and made it difficult for companies to launch successful issues. The corporate sector was recovering from the damage caused by large capacity expansions and new projects set up in the nineties. The dormant primary issues market came alive after 2003 mostly because of the divestment programme of the government. The issue of Maruti Udyog, through which the government sold part of its stake in the company, rekindled retail investor interest in the primary market. The issue was made at a very reasonable price and investors made very good returns immediately. The year 2004 saw the primary market activity at its historic peak as some large private companies also came out with issues. Further divestment by the government; including the largest ever issue by an Indian company from ONGC, attracted more retail investors into the market. The IPO market continues to buzz in the current year as well. Taking advantage of the strength in the secondary market, many high profle companies are lining up to raise money from the market. The year started with the issue from Jet Airways which attracted a lot of interest from investors. As a result of tougher regulations, the quality of the issues has gone up substantially. 9
  • 2006 onwards scenario: India's IPO market emerged as the eighth largest with $7.23 billion (Rs 30,000 crore) in net proceeds through 78 public issues, global research and consultancy firm Ernst & Young said in its Global IPO report. Across the world, the companies raised $246 billion, up from $167 billion in 2005, through a total of 1,729 IPOs, led by Chinese companies at the top with net proceeds of $56.6 billion. However, the biggest number of IPOs came from the United States with 187 offerings, followed by Japan with 185 and China with 175 IPOs. According to the study, India's increasing number of larger deals has been driven by the growth of Indian corporations and their need for additional capital for potential acquisitions. In 2007 Indian IPOs continue to surge in numbers. Continued strength is expected in the real estate and energy sector. "The rapid growth in emerging market economies has resulted in a migration of capital from the developed economies into the emerging markets," E&Y said. The localisation trend in India is evidenced by several billion-dollar IPOs hosted by Indian exchanges. In 2006, India's largest IPO, Reliance Petroleum raised $1.8 billion, followed by the oil production and exploration company, Cairn Energy, which raised $1.3 billion with both companies listing on domestic exchanges. However, some Indian companies are also listing abroad, especially London, Singapore and Luxembourg, primarily for higher valuations and visibility, the report noted. The private equity rush into India is creating the potential for many IPO exits. In 2006, private equity firms invested more than $7 billion in India. Top global private equity funds as well as local funds, have been key drivers of Indian IPO markets. 10
  • 1.3 REGULATORY FRAMEWORK FOR IPOS Eligibility Conditions for Companies Issuing Securities The companies issuing securities offered through an offer document shall satisfy the following at the time of filing the draft offer document with SEBI and also at the time of filing the final offer document with the Registrar of Companies/ Designated Stock Exchange:  Filing of offer document No issuer company shall make any public issue of securities, unless a draft Prospectus has been filed with the Board through a Merchant Banker, at least 30 days prior to the filing of the Prospectus with the Registrar of Companies (ROC): Provided that if the Board specifies changes or issues observations on the draft Prospectus (without being under any obligation to do so), the issuer company or the Lead Manager to the Issue shall carry out such changes in the draft Prospectus or comply with the observation issued by the Board before filing the Prospectus with ROC.  Companies barred not to issue security No company shall make an issue of securities if the company has been prohibited from accessing the capital market under any order or direction passed by the Board.  Application for listing No company shall make any public issue of securities unless it has made an application for listing of those securities in the stock exchange  Issue of securities in dematerialized form No company shall make public or rights issue or an offer for sale of securities, unless: 11
  • a. The company enters into an agreement with a depository for dematerialization of securities already issued or proposed to be issued to the public or existing shareholders; and b. The company gives an option to subscribers/ shareholders/ investors to receive the security certificates or hold securities in dematerialized form with a depository.  IPO Grading No unlisted company shall make an IPO of equity shares unless the following conditions are satisfied as on the date of filing of Prospectus with ROC: a. the unlisted company has obtained grading for the IPO from at least one credit rating agency b. Disclosures of all the grades obtained, along with the rationale/ description furnished by the credit rating agency(ies) for each of the grades obtained. Eligibility Norms for IPO An unlisted company may make an initial public offering (IPO) of equity shares only if :- • The company has net tangible assets of at least Rs. 3 crores in each of the preceding 3 full years (of 12 months each), of which not more than 50% is held in monetary assets. • The company has a track record of distributable profits in terms of Section 205 of the Companies Act, 1956, for at least three (3) out of immediately preceding five (5) years. • The company has a net worth of at least Rs. 1 crore in each of the preceding 3 full years (of 12 months each). • In case the company has changed its name within the last one year, atleast 50% of the revenue for the preceding 1 full year is earned by the company from the activity suggested by the new name. 12
  • • The aggregate of the proposed issue and all previous issues made in the same financial year in terms of size (i.e., offer through offer document + firm allotment + promoters’ contribution through the offer document), does not exceed five (5) times its pre-issue networth as per the audited balance sheet of the last financial year. 1.4 PROCEDURE FOR IPOS Fixed Pricing versus True Pricing (Book- Building) The traditional method of doing IPOs is the fixed price offering. Here, the issuer and the merchant banker agree on an “issue price”. Then the investor has a choice of filling in an application form at this price and subscribing to the issue. Extensive research has revealed that the fixed price offering is a poor way of doing IPOs. Fixed price offerings, all over the world, suffer from `IPO underpricing'. In India, on average, the fixed-price seems to be around 50% below the price at first listing; i.e. the issuer obtains 50% lower issue proceeds as compared to what might have been the case. This average masks a steady stream of dubious IPOs who get an issue price which is much higher than the price at first listing. Hence fixed price offerings are weak in two directions:  dubious issues get overpriced and  Good issues get under priced. 1.4.1 BOOK-BUILDING A mechanism where, during period for which the IPO is open, bids are collected from investors at various prices which are above or equal to the floor price (the minimum price). The final price of the share is determined after the bid closing date, based on certain evaluation criteria. 13
  • The SEBI (Disclosure and Investor Protection) Guidelines, 2000, define the term `book-building' in a rather complex language as "a process undertaken by which a demand for the securities proposed to be issued by a body corporate is elicited and built- up and the price for such securities is assessed for determination of the quantum of such securities to be issued by means of a notice, circular, advertisement, document or information memoranda or offer document.'' Book building process is a common practice used in most developed countries for marketing a public offer of equity shares of a company. However, Book building acts as scientific as well as flexible price discovery method through which a consensus price of IPO’s may be determined by the issuer company along with the Book Running Lead Manager (i.e. merchant banker) on the basis of feedback received from individual investors as well as most informed investors (who are institutional and corporate investors like, UTI, LICI, GICI, FIIs, and SFCI etc). The method helps to make a correct evaluation of a company’s potential and the price of its shares. 14
  • The Book-Building Process (Fig 1.1) In simple terms, book-building is a mechanism by which the issue price is discovered on the basis of bids received from syndicate members/brokers and not by the issuers/merchant bankers. 15 ISSUER BOOK RUNNING LEAD MANAGERS MUTUAL FUNDS UNDERWRITERS MERCHANT BANKERS STOCK BROKERS I N V E S T O R S MFs Financial Foreign Financial NRIs Corporations HNIs Retail Investors Institutions Institutions
  • An Issuer Company can issue capital through book building in following two ways: 75% Book Building process – Under this type of public offer, the issue of securities has to be categorized into:  Placement portion category  Net offer to the public The option of 75% Book Building is available to all body corporate that are otherwise eligible to make an issue of capital to the public. The securities issued through the book building process are indicated as 'placement portion category' and securities available to public are identified as 'net offer to public'. In this option, underwriting is mandatory to the extent of the net offer to the public. The issue price for the placement portion and offers to public are required to be same 100% of the net offer to the public through Book Building process - In the 100% of the net offer to the public, entire issue is made through Book Building process. However, there can be a reservation or firm allotment to a maximum of 5% of the issue size for the permanent employees, shareholders of the company or group companies, persons who, on the date of filing of the draft offer document with the Board, have business association, as depositors, bondholders and subscribers to services, with the issuer making an initial public offering. The number of bidding centres, in case of 75% book building process should not be less than the number of mandatory collection centres specified by SEBI. In case of 100% book building process, the bidding centres should be at all the places where the recognised stock exchanges are situated. 16
  • Book Building Process in India The steps which are usually followed in the book building process can be summarized below: The issuer company proposing an IPO appoints a lead merchant banker as a BRLM. (2) Initially, the issuer company consults with the BRLM in drawing up a draft prospectus (i.e. offer document) which does not mention the price of the issues, but includes other details about the size of the issue, past history of the company, and a price band. The securities available to the public are separately identified as “net offer to the public”. (3) The draft prospectus is filed with SEBI which gives it a legal standing. (4) A definite period is fixed as the bid period and BRLM conducts awareness campaigns like advertisement, road shows etc. (5) The BRLM appoints a syndicate member, a SEBI registered intermediary to underwrite the issues to the extent of “net offer to the public”. (6) The BRLM is entitled to remuneration for conducting the Book Building process. (7) The copy of the draft prospectus may be circulated by the BRLM to the institutional investors as well as to the syndicate members. (8) The syndicate members create demand and ask each investor for the number of shares and the offer price. (9) The BRLM receives the feedback about the investor’s bids through syndicate members. (10) The prospective investors may revise their bids at any time during the bid period. 17
  • (11) The BRLM on receipts of the feedback from the syndicate members about the bid price and the quantity of shares applied has to build up an order book showing the demand for the shares of the company at various prices. The syndicate members must also maintain a record book for orders received from institutional investors for subscribing to the issue out of the placement portion. (12) On receipts of the above information, the BRLM and the issuer company determine the issue price. This is known as the market-clearing price. (13) The BRLM then closes the book in consultation with the issuer company and determine the issue size of (a) placement portion and (b) public offer portion. (14) Once the final price is determined, the allocation of securities should be made by the BRLM based on prior commitment, investor’s quality, price aggression, earliness of bids etc. The bid of an institutional bidder, even if he has paid full amount may be rejected without being assigned any reason as the Book Building portion of institutional investors is left entirely at the discretion of the issuer company and the BRLM. (15) The Final prospectus is filed with the registrar of companies within 2 days of determination of issue price and receipts of acknowledgement card from SEBI. (16) Two different accounts for collection of application money, one for the private placement portion and the other for the public subscription should be opened by the issuer company. (17) The placement portion is closed a day before the opening of the public issue through fixed price method. The BRLM is required to have the application forms along with the application money from the institutional buyers and the underwriters to the private placement portion. (18) The allotment for the private placement portion shall be made on the 2nd day from the closure of the issue and the private placement portion is ready to be listed. 18
  • (19) The allotment and listing of issues under the public portion (i.e. fixed price portion) must be as per the existing statutory requirements. (20) Finally, the SEBI has the right to inspect such records and books which are maintained by the BRLM and other intermediaries involved in the Book Building process Pricing Before establishment of SEBI in 1992, the quality of disclosures in the offer documents was very poor. The main drawback of free pricing was the process of pricing of issues. The issue price was determined around 60-70 days before the opening of the issue and the issuer had no clear idea about the market perception of the price determined. In Book Building the price is determined on the basis of demand received or at price above or equal to the floor price. The Allotment Process through Book-building: Step1-The Company will 'discover' its price Earlier, the company determined a fixed price for the stock issue. The issue was marketed to the general public through advertisements and a media campaign. Today, companies prefer a book building process. Book building is the process of price discovery. That means there is no fixed price for the share. Instead, the company issuing the shares comes up with a price band. The lowest price is referred to as the floor and the highest, the cap. Bids are then invited for the shares. Each investor states how many shares s/he wants and what s/he is willing to pay for those shares (depending on the price band). The actual price is then discovered based on these bids. Step2-Players of the game Three classes of investors can bid for the shares: 19
  • • Qualified Institutional Buyers: QIBs include mutual funds and Foreign Institutional Investors. At least 50% of the shares are reserved for this category. • Retail investors: Anyone who bids for shares under Rs 50,000 is a retail investor. At least 25% is reserved for this category. • The balance bids are offered to high networth individuals and employees of the company. Individuals who apply for the IPO put in their bids. The process is transparent. One can check on the issue subscription at the BSE and NSE Web sites. After evaluating the bid prices, the company will accept the lowest price that will allow it to dispose the entire block of shares. That is called the cut-off price. The process can be illustrated with an example: Number of shares issued by the company = 100. Price band = Rs 30 - Rs 40. If individuals have bid for prices as follows: Bid Number of shares Price per share 1 20 Rs 40 2 10 Rs 38 3 20 Rs 37 4 30 Rs 36 5 20 Rs 35 6 20 Rs 33 7 20 Rs 30 The shares will be sold at the Bid 5 price of 20 shares for Rs 35. Why? • Because Bidders 1 to 5 are willing to pay at least Rs 35 per share. 20
  • • The total bids from Bidders 1 to 5 ensure all 100 shares will be sold (20 + 10 + 20 + 30 + 20). The cut-off price is therefore Bid 5's price = Rs 35. Bidders 1 to 5 get allotments at that price. Bidders 6 and 7 don't get an allotment because their bids are below the cut-off price. The bids are first allotted to the different categories and the over-subscription (more shares applied for than the shares available) in each category is determined. Retail investors and high networth individuals get allotments on a proportional basis. If a retail investor has applied for 200 shares in the issue, and the issue is over- subscribed five times in the retail category, he qualify to get 40 shares (200 shares/5). Sometimes, the over-subscription is huge or the issue is priced so high that the bidder can't really bid for too many shares before the Rs 50,000 limit is reached. In such cases, allotments are made on the basis of a lottery. If a retail investor has applied for 5 shares in an issue, and the retail category has been over-subscribed 10 times, the investor is entitled to half a share. Since that isn't possible, it may then be decided that every 1 in 2 retail investors will get allotment. The investors are then selected by lottery and the issue allotted on a proportional basis among. ILLUSTRATION EXPLAINING THE PROCEDURE OF ALLOTMENT 1. Total shares on offer@ Rs. 600 per share: 10 crore shares 2. Shares on offer for retail category: 2.5 crore shares 3. The total issue is over subscribed 4 times whereas the retail category is over subscribed 8.25 times 21
  • 4. Issuer decides to fix the minimum application / bid size as 9 shares (falling within the range of Rs. 5000- 7000). Application can be made for a minimum of 9 shares and in multiples thereof. Assume three retail investors A, B & C. A has applied for 81 shares. B has applied for 72 shares and C has applied for 45 shares. As per allotment procedure, the allotment to retail individual investors would be on proportionate basis i.e., at 1/8.25th of the total number of shares applied for. The actual entitlement shall be as follows: 1.5 Reverse Book Building Reverse book-building is a mechanism by which companies listed on a stock exchange can delist their shares. The reasons for delisting may be several and sometimes intentional. The reverse book building is an efficient price discovery mechanism of de-listing of securities, which is provided for capturing the sell orders on online basis from the shareholders through respective BRLM. In the reverse book-building scenario, the acquirer or promoter of a company offers to get back shares from the shareholders. It is a mechanism where, during the period for which the reverse book building is open, offers Sr. No. Name of Investor Total Number of shares applied for Total number of shares eligible to be allotted (No. of shares applied for / 8.25) 1 A 81 81/8.25 = 9.82 shares rounded off to 10 shares 2 B 72 72/8.25 = 8.73 shares rounded off to 9 shares (i.e. minimum application size). 3 C 45 shares 45/8.25=5.45 shares. Application liable to be rejected. (as the entitlement is less than the minimum application size). However, the successful applicants out of the total applicants shall be determined by drawal of lots. 22
  • are collected at various prices, which are above or equal to the floor price from the share holders through trading members appointed by the acquirer or promoter of a company. The reverse book building price (i.e. final price/ exist price) is determined by BRLM in consultation with the acquirer or promoter of the company after the offer closing date in accordance with the SEBI (De-listing of Securities) Guidelines, 2003. which desires to get de-listed, in accordance to book building process. The offer price has a floor price, which is fixed for de-listing of securities below which no offer can be accepted. The floor price is the average of 26 weeks traded price quoted on the stock exchange where the shares of the company are most frequently traded preceding 26 weeks from the date of public announcement is made. There is no ceiling on the maximum price. 1.6 Buy Back Of Shares It is a process whereby a company purchases its own shares or other specified securities from the holders thereof for improving the earnings per share (EPS), or to improve return on capital or return on net worth and to enhance the long-term shareholder value, among other things. OBJECTIVES OF BUY BACK  To increase promoters holding  Increase earning per share  Rationalize the capital structure by writing off capital not represented by available assets  Support share value  To thwart takeover bid  To pay surplus cash not required by business COMMENT – It is an interesting fact to note that MNCs are using buyback process as the best strategy to maintain their share price in a bear run by buying back the shares from the open market at a premium over the prevailing market price. 23
  • Procedure for Buy Back  Where a company proposes to buy back its shares, it shall, after passing of the special/Board resolution make a public announcement at least one English National Daily, one Hindi National daily and Regional Language Daily at the place where the registered office of the company is situated.  The public announcement shall specify a date, which shall be “specified date” for the purpose of determining the names of shareholders to whom the letter of offer has to be sent.  A public notice shall be given containing disclosures as specified in Schedule I of the SEBI regulations.  A draft letter of offer shall be filed with SEBI through a merchant Banker. The letter of offer shall then be dispatched to the members of the company.  A copy of the Board resolution authorizing the buy back shall be filed with the SEBI and stock exchanges.  The date of opening of the offer shall not be earlier than seven days or later than 30 days after the specified date  The buy back offer shall remain open for a period of not less than 15 days and not more than 30 days.  A company opting for buy back through the public offer or tender offer shall open an escrow Account.  COMMENT – MNCs are taking advantage of the depressed market conditions to mop up the shares. There is nothing legally wrong in buying back shares, but it should be by paying a fair price to minority shareholders. 1.7 Difference between Delisting and Buyback 24
  • De-listing is different from “buy back” of securities in which the securities of a company are extinguished with consequent reduction of capital of the company. In the case of de- listing there is no reduction of capital. It is needless to mention that in the case of buy back securities, the company itself is the acquirer and hence provides the funds for buy back. In the case of de-listing, the securities are acquired by a person other than the company and who could be the promoter, majority shareholder or a person in control of the management and the funds have to be provided by that acquirer. 1.8 ROLE OF VARIOUS INTERMEDIARIES IN IPO 25
  • Intermediary’s help corporations design securities that will be attractive to investors, buy these securities from the corporations, and then resell them to savers in the primary markets. Merchant Bankers/ Lead Manager Merchant bankers play an important role in issue management process. Lead managers have to ensure correctness of the information furnished in the offer document. They have to ensure compliance with SEBI rules and regulations as also Guidelines for Disclosures and Investor Protection. To this effect, they are required to submit to SEBI a due diligence certificate confirming that the disclosures made in the draft prospectus or letter of offer are true, fair and adequate to enable the prospective investors to make a well informed investment decision. The role of merchant bankers in performing their due diligence functions has become even more important with the strengthening of disclosure requirements and with SEBI giving up the vetting of prospectuses. Their functions are:  To act as intermediaries between the company seeking to raise money and the investors. They must possess a valid registration from SEBI enabling them to do this job.  They are responsible for complying with the formalities of an issue, like drawing up the prospectus and marketing the issue.  If it is a book building process, the lead manager is also in charge of it. In such a case, they are also called Book Running Lead Managers.  Post issue activities, like intimation of allotments and refunds, are their responsibility as well. Underwriters Underwriters are required to register with SEBI in terms of the SEBI (Underwriters) Rules and Regulations, 1993. In addition to underwriters registered with SEBI in terms of these regulations, all registered merchant bankers in categories I, II and III and stockbrokers and mutual funds registered with SEBI can function as underwriters. Part III 26
  • gives further details of registration of underwriters. In 1996-97, the SEBI (Underwriters) Regulations, 1993 were amended mainly pertaining to some procedural matters. Bankers to an Issue Scheduled banks acting as bankers to an issue are required to be registered with SEBI in terms of the SEBI (Bankers to the Issue) Rules and Regulations, 1994. These regulations lay down eligibility criteria for bankers to an issue and require registrants to meet periodic reporting requirements. Part III gives further details of registration of bankers to an issue. Portfolio managers Portfolio managers are required to register with SEBI in terms of the SEBI (Portfolio Managers) Rules and Regulations, 1993. The registered portfolio managers exclusively carry on portfolio management activities. In addition all merchant bankers in categories I and II can act as portfolio managers with prior permission from SEBI. Part III gives further details of the registration of portfolio managers. Registrars to an Issue and Share Transfer Agents Registrars to an issue (RTI) and share transfer agents (STA) are registered with SEBI in terms of the SEBI (Registrar to the Issue and Share Transfer Agent) Rules and Regulations, 1993. Under these regulations, registration commenced in 1993-94 and is granted under two categories: category I - to act as both registrar to the issue and share transfer agent and category II - to act as either registrar to an issue or share transfer agent. With the setting up of the depository and the expansion of the network of depositories, the traditional work of registrars is likely to undergo a change. 1.9 IPO Grading 27
  • IPO grading (initial public offering grading) is a service aimed at facilitating the assessment of equity issues offered to public. The grade assigned to any individual issue represents a relative assessment of the ‘fundamentals’ of that issue in relation to the other listed equity securities in India. IPO grading is positioned as a service that provides ‘an independent assessment of fundamentals’ to aid comparative assessment that would prove useful as an information and investment tool for investors. Moreover, such a service would be particularly useful for assessing the offerings of companies accessing the equity markets for the first time where there is no track record of their market performance. IPO grade assigned to any issue represents a relative assessment of the ‘fundamentals’ of that issue in relation to the universe of other listed equity securities in India. This grading can be used by the investor as tool to make investment decision. The IPO grading will help the investor better appreciate the meaning of the disclosures in the issue documents to the extent that they affect the issue’s fundamentals. Thus, IPO grading is an additional investor information and investment guidance tool. Credit Rating agencies (CRAs) like ICRA, CRISIL, CARE and Fitch Ratings who are registered with SEBI will carry out IPO grading. SEBI does not play any role in the assessment made by the grading agency. The grading is intended to be an independent and unbiased opinion of that agency. IPO grading is not mandatory but is optional and the assigned grade would be a one time assessment done at the time of the IPO and meant to aid investors who are interested in investing in the IPO. The grade will not have any ongoing validity. SEBI GUIDELINES ON IPO GRADING  No unlisted company shall make an IPO of equity shares or any other security which may be converted into or exchanged with equity shares at a later date, unless the following conditions are satisfied as on the date of filing of Prospectus (in case of fixed price issue) or Red Herring Prospectus (in case of book built issue) with ROC: 28
  • • The unlisted company has obtained grading for the IPO from at least one credit rating agency; • Disclosures of all the grades obtained, along with the rationale/description furnished by the credit rating agency(ies) for each of the grades obtained, have been made in the Prospectus (in case of fixed price issue) or Red Herring Prospectus (in case of book built issue); and • The expenses incurred for grading IPO have been borne by the unlisted company obtaining grading for IPO. Most of the market analysts have welcomed this move of SEBI as it will help the investors in a volatile market to know whether the merchant banker has carried the exercise in determining the price of an issue in a proper manner or not. It will also help the investors in knowing whether the price of the issue is justified or not. They even said that management of a good company will never get afraid of getting graded of their IPOs if they are good. The only demerit of this step by the SEBI as said by many experts is that there will be a slowdown in the number of IPOs coming out as grading will be a bit lengthy process and there will be a cost-factor attached to it also. FEATURES OF IPO GRADING IPO grading covers both internal and external aspects of a company seeking to make an IPO in general. The internal factors include competence and effectiveness of the management, profile of promoters, marketing strategies, size and growth of revenues, competitive edge, technology, operating efficiency, liquidity and financial flexibility, asset quality, accounting quality, profitability and hedging of risks. Among external factors, the key one is the industry and economic/business environment for the issuer. Here, it is important to note that internationally, the global rating agencies such as Standard & Poors and Moodys do not perform grading of IPOs at all. While Standard & Poors is the majority stakeholder in CRISIL Ltd, Moodys is the single biggest stakeholder in ICRA Ltd. Similarly, the third global player Fitch IBCA (which acquired another rating agency Dun & Bradstreet in 2000) also does not grade IPOs as yet. The 29
  • IPO grading is indicated on a five point scale and a higher score indicating stronger fundamentals. An IPO grading Scale IPO grade Assessment 5/5 Strong fundamentals 4/5 Above average fundamentals 3/5 Average fundamentals 2/5 Below average fundamentals 1/5 Poor fundamentals 30
  • Data-flow diagram showing the entire IPO-grading procedure This process will ideally require 2-3 weeks for completion, so it may be a good idea for companies to initiate the grading process about 6-8 weeks before the targeted IPO date to provide sufficient time for any contingencies. 31
  • Cost Involved In IPO Grading Though nothing has been declared officially but most of the credit rating has said that IPO-grading would not cost much to the issuers. They would be charging 10 basis points of the amount to be raised with a ceiling of about Rs 10-15 lakhs. Thus, even in the case of a mega IPO, there would be a cap on fees, he noted. Around 100 IPOs hit the market on an average every year. However, despite this seemingly big number, the total receipts for the entire rating industry on account of grading fees would be only about Rs 10-15 crore. Benefits of IPO Grading There are various positive sides of an IPO grading. The most significant factors that go in favor of IPO grading are: (a) Professional and Independent Appraisal: IPO grading will create awareness about the fundamentals of the company’s IPO and will provide focused company information as a key input to prospective investors that will be helpful in taking an investment decision, in a manner similar to what a credit rating is for debt investors. (b) Removal of Information Burden: Where disclosures of issues are large and complex, a service analyzing and interpreting these disclosures independently and quickly will be extremely useful in cutting through the clutter. Thus, the usefulness of IPO grading would be particularly high for small investors as it will serve as a guide about the company coming out with the issue. (c) Impediment for Weak Companies: While fundamentally sound companies will gain from the market, companies whose fundamentals are not very strong will be impeded in building up speculative demand among investors. Such weak companies will need to offer pricing, which will adequately compensate investors for the risks they take. Therefore, IPO grading provides disincentives for weak companies planning to come to the market to raise easy capital. 32
  • (d) Improved Investors’ Sophistication: It is perceived that an independent and informed opinion on the fundamental quality of the company will bring about greater level of investor sophistication in a scientific manner. In fact, investors may take investment decisions in a better way on the basis of opinion of CRAs regarding IPO grading. However, the assessment is not a recommendation to buy or not buy a stock. It is, instead, a powerful tool to assist the investors in making up their mind about the quality of a company proposing to offer an IPO investment option. 33
  • CHAPTER 2 REVIEW OF LITERATURE 34
  • 2 LITERATURE REVIEW The literature review on IPOs can be divided in the following main heads- a) Reason and timing of going public Going public marks a watershed in the life cycle of the firm. While increased equity can support the firm’s future plans of growth, the trade off for the firm is that of increased public scrutiny. • Brealy and Myers (2005) state that in the context of USA the firms may seek private equity in their initial years and only later go for public issues. • Pagano, Panetta and Zingales (1998) in their study of Italian firms, find that firms going public are not seeking money for growth but are rebalancing their accounts after high investment and growth. • Lerner (1994) found that there are times (windows of opportunity) when the markets could be extremely optimistic about a particular industry and it may be a good time for the firms in that industry to go public. The post IPO period sees a reduction in leverage as well as investment. They state that going public is a conscious choice that some firms make while some others prefer to remain private. Thus going public is not a natural element in the life cycle of a firm. b) Valuation of IPOs • Benveniste and Spindt (1989) find that under writers try to resolve the information asymmetry problem between the firm and the investors by providing an incentive to the investors to reveal their private information about the firm. • Kim and Ritter (1999) in their study of 190 firms find that under writers forecast the next years earnings numbers and multiply them with PE ratios of comparable 35
  • firms in the industry to get the approximate price of the IPO. However they also found that PE ratios using historical earnings numbers do not give accurate results whereas when forecasted earnings numbers are used then the valuation is much more accurate. • Purnanandam and Swaminathan (2002) say that IPOs are priced 50% higher than industry peers. Also they find that more the IPO is overpriced with respect to its peers, worse is its long term performance. c) Allocation mechanism The allocation mechanisms are specified by the regulators in different countries. Loughran, Ritter and Rydqvist (1994) find 3 main categories across countries-Auctions, Fixed price offers and Book Building. Sherman (2005) finds that Book building is a superior mechanism for selling IPOs rather than auctions. 36
  • CHAPTER 3 RESEARCH METHODOLOGY 37
  • RESEARCH METHODOLOGY 1. Descriptive Research Descriptive research is used to obtain information concerning the current status of the phenomena to describe “what exists” with respect to variables or conditions in a situation. Descriptive research, also known as statistical research, describes data and characteristics about the population or phenomenon being studied. Descriptive research answers the questions who, what, where, when and how. Although the data description is factual, accurate and systematic, the research cannot describe what caused a situation 2. Analytical Research Analytical research takes descriptive research one stage further by seeking to explain the reasons behind a particular occurrence by discovering causal relationships. Once causal relationships have been discovered, the search then shifts to factors that can be changed (variables) in order to influence the chain of causality. 38
  • 3.1.1 OBJECTIVE OF THE STUDY Main Objective:  An attempt has been made to analyze the various IPOs and recommend others to invest in good initial public offerings after thorough research of financial statements of the companies. Sub objectives:  To understand various dimensions and problems in IPO process and to suggest recommendations.  To understand post IPO performance.  To analyze financial position of Companies as depicted in its Annual report as it serve an important basis for investors to judge company performance and future prospects. 39
  • 3.1.2 DATA COLLECTION Secondary data has been collected. This kind of data has been previously collected. This is the kind of data that should always be collected first. I have taken this data from different web sites and newspapers. 40
  • CHAPTER 4 4.1 ANALYSIS AND INTERPRETATION 41
  • KIRI DYES AND CHEMICALS LTD Issue Details Issue Opens March 25.2008 Issue Closes April 02,2008 Price Band Rs. 125-150 Face Value Rs. 10 Issue Size 3,750,000 shares Listing NSE, BSE QIBs 1,875,000 shares Non Institutional 5,62,500 shares Retail 1,312,500 shares Company Background Incorporated in 1998, Kiri Dyes and Chemicals Limited is engaged in the business of manufacturing of reactive dyes which are called synthetic organic dyes used for cotton fabrics like garments, dress materials, bed-sheets, carpets etc. The dyes are of basically colours like black, blue, and red, orange, yellow and numerous variants of these basic colours identified by color index number internationally. The product range of company caters to textiles, leather, and paint and printing-ink industries with total production capacity of 10800 MTPA. With plans for further backward integration, the IPO is to fund capital expenditure to set up a plant to manufacture sulphuric acid, oleum and chloro sulphonic acid, with a combined capacity of 1, 80,000 tonnes, and a dyes and intermediates unit. A 2.9-MW power plant that can run from the steam generated by the sulphuric acid plant is also on the anvil. The electricity generated will be sufficient not only to run the sulphuric acid plant but also the intermediate plants of VS and H-Acid. 42
  • Following the expansion, the capacity to manufacture sulphuric acid will be 1, 00,000 tonnes, oleum 43,200 tonnes and chlorosulphonoic acid 36,000. The plant to manufacture sulphuric acid and its sub-products is to be completed by December 2008. Around 25% of the capacity of sulphuric acid, oleum and chlorosulphonic acid will be used to produce dye-intermediates: H-Acid and V.S. The remaining produce will be marketed directly to bulk end-users in the detergent and chemical industry and other large consumers. The capacity to produce dyestuff will be increased 3,000 tonnes to 15,000 tonnes by the fiscal ending March 2010 (FY 2010). The capacity to manufacture dyes intermediates VS will become 4,200 tonnes in FY 2009 and then further increase to 4,800 tonnes in FY 2010. The capacity to produce H-acid will increase to 4,200 tonnes in FY 2010. The Industry produces a wide spectrum of products, which include Pharmaceuticals, Dyes, Man-made Fibers, Plastics, Pesticides, Fertilizers, Cosmetics and Toiletries, Paint, Auxiliary Chemicals and wide range of organic and Inorganic compounds for applications ranging from automobiles, textile industry, engineering industry, construction chemicals and food additives to veterinary and health care products. The company is engaged in the business of manufacturing and marketing of: 1. Reactive Dyes – Synthetic Organic Dyes (S. O. Dyes) 2. Dyes Intermediate: Vinyl Sulphone 3. Dyes Intermediate: H-Acid Purpose of the Issue: 43
  • 1.To fund the capital expenditure for setting up of a plant to manufacture Sulphuric Acid, Oleum and Chloro Sulphonic Acid with a combined capacity of 500 M.T. per day adjacent to its existing unit at Village Dudhwada, Taluka Padra, District Vadodara; 2. To fund the capital expenditure for Dyes and Intermediates Unit located at GIDC, Vatva, Ahmedabad; 3. To fund the additional working capital margin; 4. To meet Issue expenses; 5. To meet expenses of the Issue in order to achieve the benefits of listing on the Stock Exchanges. Strengths: 1. OPM has increased from 7.9% in FY 06 to 10.7% in FY 07. For half year ended September 2007, OPM stands at 15%. 2. KDCL’s source of revenue is well diversified. Therefore, the company’s revenue will not be majorly affected if any of the markets slow down. 3. KDCL’s source of revenue is well diversified. Therefore, the company’s revenue will not be majorly affected if any of the markets slow down. 4. Stringent environmental laws in the western countries have led to discontinuance of production of certain dyes for textiles and leather. This has led to shift in manufacturing capacity from the US and the European Union to South East Asia. Climatic conditions in India are favorable for the manufacture of such products. Also, the new usage of dyestuffs in electronic, high-tech printing, and bio medical applications augurs well for the high-valued dyestuff products. 5. Backward integration and JV with global giants will help to save cost and strengthen research and development facility. Weaknesses: 44
  • 1. Operates in a highly competitive and unorganised business environment with many big and small players exporting and manufacturing dye and dyestuff. The increased competitive pressure may adversely affect margin. 2. Had negative cash flows of Rs. 4.88 crore and Rs.9.42 crore from operating income in FY 2007 and FY 2006. 3. Currently paying MAT (minimum alternate tax) on account of benefits of exemption received under Section 10 B of the Income-Tax Act, 1961, as it is a 100% export-oriented unit (EOU). This status will expire in March 2010. The withdrawal of tax incentives would increase the tax liability and adversely impact profitability. 4. The debt-equity ratio of the company increased from 1.10 times in FY 05 to 1.76 times in FY 07 due to increase in the long term debt taken by the company from Rs. 19.64 crore in FY 05 to Rs. 59.67 crore in FY 07. Fundamental Analysis The booming Indian Economy has had a favorable impact on the business of the company for the year 2006-07.The growth in the economy as well as manufacturing sector has thrown up substantial opportunities in the company’s core sector of operation such as Manufacturing Dyes and Intermediates, which has helped the company perform well during the year 2006-07. Opportunities • The company is one of the leading players in the manufacturing and exports of Dyes in India in terms of revenue and profits. 45
  • • The company also got expertise in Domestic and International trading of its products. • It provides all the technical services of its products as well as all application information to improve customization of its products. Threats • Frequent and unexpected changes in the EXIM Policies • Entry of new competitors in the same line of activities. Ratio Analysis As on 31-Mar-07 31-Mar-06 31-Mar-05 OPBIT/Prod.cap.empl.(%) 15.25 11.52 14.84 PBIT/Cap. Employed (%) 15.13 11.50 14.88 PAT/Networth (%) 25.49 18.02 17.45 Tax/PBT (%) 4.27 5.93 4.74 Total Debt/Networth (x) 1.76 1.45 1.10 Long Term Debt/Networth (x) 0.44 0.23 0.04 PBDIT/Finance Charges (x) 3.00 3.39 2.61 Current Ratio (x) 4.75 4.90 2.78 RM Inventory (days consumption) 0.00 0.00 0.00 FG inventory (days cost of sales) 0.00 0.00 0.00 Receivables (days gross sales) 88.69 109.90 101.98 Creditors (days cost of sales) 0.00 0.00 0.00 Op. curr. assets (days OI) 195.00 209.00 223.00 • The ideal current ratio is 2:1.but the current ration of both the years exceeds the ideal ratio which indicates that funds are not used efficiently and lying idle. 46
  • • An ideal debt equity ratio is 2:1.but the debt equity ratio of both the years is low which implies the use of more equity than debt, which means a larger safety margin for creditors since owners equity is considered as a margin of safety by creditors and vice-versa. • Inventory is one area where management has achieved constant success. It has tried to reduce operating cycle of the division for which it was imperative to reduce the inventory storage periods consisting of the three components --- raw material, work in progress, and finished goods. The inventory turnover ratio has increased from previous year from 9.517 times to 13.766 times. A very high inventory turnover indicates that overtrading and it may leads to shortage of the working capital. • The ideal quick ratio is 1:1. But the quick ratio of both the years i.e. 3.296 times and 2.878 times exceeds the ideal ratio. Higher quick ratio means excessive amount of liquid assets have been invested. • Fixed Assets Turnover ratio has decreased from 4.9399 times to 3.1603 times so it is not a good sign, it indicates that fixed assets remained idle and therefore, the management should investigate and determine the reasons for the decline. • Return on investment of kiri dyes first decreases in year 2006-07 but then slightly increase in year 2007-08.The reason for such a low return is that more than half of the total capital employed used in calculating return on capital hardly yield any return. Company Analysis • Kiri Dyes & Chemicals Ltd. (KDCL) was incorporated as a private limited company in May 1998 and was converted into a public ltd co. in May 2006. • KDCL is engaged in the business of manufacturing and marketing of: 1. Reactive Dyes- Synthetic Organic Dyes (S.O. Dyes) 47
  • 2. Dye Intermediates- Vinyl Sulphone and H-Acid • KDCL’s production hub is centrally located in Gujarat. S.O. Dyes are manufactured and processed in three plants located in Vatva, Ahmedabad and dye intermediates are being produced at Padra plant in Vadodara. • The installed capacity for dyestuff (S.O. Dyes) was 10,800 MT per annum with capacity utilization of 77.37% in FY 07. • The installed capacity for dye intermediates (Vinyl Sulphone and H-Acid) was 3,600 MT per annum each with capacity utilization of 42.94% and 4.17% respectively in FY 07. • KDCL’s product range comprises of more than 120 dyestuffs used by textiles, leather, and paint and printing-ink industries. • KDCL supplies reactive, acid, and direct dyes as well as dye-intermediates in various forms like standardized spray dried/tray dried - powder/granular, crude and reverse osmosis. • KDCL has seen increase in the % share of the domestic market from 0.80% in FY 03 to 33.55% in FY 07. For half year ended September 2007, the same has increased nearly to 49%. • KDCL’s major chunk of export revenue comes from Turkey (18%) and Korea (18%) followed by Bangladesh (17%), USA (15%), Taiwan (7%) and Indonesia (6%). • Some of KDCL’s top customers includes both Indian and global companies such as, Dystar (India) Pvt ltd (India), Kyungin Synthetic Corporation (Korea), Sen Er Boya Kimya (Turkey), Biddle Sawyer Corporation (USA), Befuwell Enterprise Co Ltd (Taiwan) and Shangyu Yide Chemical Co. Ltd (China). • On November 1, 2007, KDCL entered into the Memorandum of Understanding with M/s. Zhejiang Lonsen Group Stock Co. Ltd. with the objective to establish a joint venture manufacturing facility in India for the production of reactive dyes. • Post issue promoter and promoter group shareholding will reduce from 88.76% to 66.57%. 48
  • Valuation of IPO • Kiri Dyes and Chemicals ltd earning per share (EPS) works out to be 8.91. • Post issue EPS is Rs 11.87 (based on PAT of year ending on March 31st, 2008). • Post issue PE at upper price band is 12.64 and at the lower price band is 10.53.The shares have been offered at a price band of Rs. 125/- to Rs. 150/- per share. • It is clearly shown from the table given above that P/E ratio of KDCL is quite high. Even the P/BV of KDCL is on the higher side in comparison to its peers. The company has shown a good top line, but there are other listed companies whose top line is far better than that of KDCL and they are available at relatively cheaper P/E multiple than KDCL. • On the other hand the company has registered negative cashflows from its operating activities of Rs 94.20 million and Rs 48.87 million during FY06 and FY07. • Another major drawback is the industry in which the company operates as it is highly competitive and there are several unorganized players. This has led to 49
  • lower margins enjoyed by the players which in turn have affected the profitability of the companies in this sector. • Hence it is recommended to “AVOID” to the Issue. RECOMMENDATION OF KIRI DYES AND CHEMICALS LTD IPO 50
  • Industry: Chemicals Industry Price Band: Rs. 125-150 Recommendation: Avoid TITAGARH WAGONS LTD. Issue Details 51
  • Issue Opens March 24.2008 Issue Closes March 27,2008 Price Band Rs. 540-610 Face Value Rs. 10 Issue Size 4,063,158 shares Listing NSE, BSE Company Background Incorporated in 1997, Titagarh Wagons Limited is one of the leading private sector wagon manufacturers in India. It is in the business of manufacturing railway wagons, Bailey bridges, Heavy Earth Moving and Mining equipment, steel and SG iron castings of moderate to complex configuration etc. They also manufacture other products for the Indian defence establishment, such as special purpose wagons, shelters and other engineering equipments. They had approximately 16.9% market share in the wagon manufacturing segment in Fiscal 2006, which has further increased to approximately 22.1% in Fiscal 2007. Titagarh Wagons Limited is the only private sector company registered with the Ministry of Defence, Government of India to manufacture Bailey bridges and other related accessories in India. Titagarh Wagons Limited aspires to be a leader as a manufacturer of heavy engineering equipment and a world-class service provider for the infrastructure sector. They operate two manufacturing facilities located at Titagarh and Uttarpara, in West Bengal. Titagarh Wagons Limited operates two manufacturing facilities located at Titagarh and Uttarpara, in West Bengal. The Uttarpara unit functions as its second manufacturing plant for wagons, in addition to manufacturing heavy earth moving and mining equipment. As an “Industry Partner” to the Defence Research and Development Organisation, Ministry of Defence (“DRDO”), the Company also manufactures other products for the Indian Defence establishment, such as special purpose wagons, shelters and other engineering equipments. The Company is structured along three broad business lines: a) wagon 52
  • manufacturing division, b) special projects division (includes defence, bailey bridges and other fabricated equipment) and c) heavy earth moving and mining equipment division Purpose of the Issue The objects of the Issue are to achieve the benefits of listing on the Stock Exchanges & to raise capital to: 1. Set up an EMU manufacturing facility at our Uttarpara unit; 2. Modernize and expand our existing facilities at our Titagarh and Uttarpara units; 3. set up an axle machining and wheel set assembly facility at our Uttarpara unit; 4. Construct a corporate office and a design cum research and development office; 5. Strategic acquisition or investments; 6. Brand building exercise; 7. General corporate purposes. Strengths 1.On the financial front, TWL‘s performance has been impressive with net sales registering a CAGR growth of over 60% and net profits up at a CAGR of close to 65% during 2005-07. The net profit margins (% of net sales) increased from 9% in FY 2005 to 12.50% for the half year ended 30th September, 2007. The current size of the order-book 53
  • as on 31st January 2008 stood at Rs 7531.13 million which translates into 2.65 times FY 2007 revenues thus rendering good growth visibility for future. 2. It receives 20-30% of the basic value of contract in advance, which is reflected in higher current liabilities thereby decreasing the requirement of working capital, again, reflected by lower interest cost as a percentage of sales, thereby positively affecting the profitability of the company. 3. The company is isolated against the risk of increasing steel prices as orders placed by Indian Railways usually include free supply of materials of high value such as steel, bogies and wheel sets. Moreover, the company has a price-escalation for its orders, thereby isolating it from increasing pressure on the margins incase of rise in its raw- materials or labor expenses. 4. Entry of competitors into the sector is restricted due to higher entry barrier on account of qualification and pre-qualification criteria for manufactures and huge capital expenditure requirement. 5. The Indian Railways in anticipation of strong freight traffic is expected to place order for procurement of 20,000 wagons for the year and plans to introduce steel coaches in trains from 2010. This could be expected to lead to further swelling of the company’s order-book thereby enhancing its bottom-line. Weaknesses • The company is greatly dependent on its suppliers for critical components such as wheel sets which also constitute 35% of the sales price of wagons manufacture for Non-Indian Railway clients. 54
  • • TWL has proposed an investment of Rs 350 million Cimmco Birla, a loss making company under the BIFR scheme, which is subject to necessary approvals from BIFR. The ability to successfully turn around the company still remains a challenge and can adversely impact the performance of TWL. • Another negative for the company is the low capacity utilization as it stood of 45% and 20% for wagons and steel bridges in FY07 respectively. • The average collection period has increased to 46 days in FY07 from 30 days in FY06. Fundamental Analysis • India railway budget 2008-09 planned to manufacture 20,000 wagons, which would be the highest level of wagon productions so far. • Movement of cargo via rail account for approximately 30% of the total cargo transported in volume terms and 11% in value terms. • The freight loading expected for FY 2008 has been pegged at 785 million tonnes, and by the terminal year of the 11th Five Year Plan, the Railways are targeting a freight loading of 1,100 million tonnes Ratio Analysis 55
  • As on 31-Mar-07 31-Mar-06 31-Mar-05 OPBIT/Prod.cap.empl.(%) 43.23 26.26 40.80 PBIT/Cap. Employed (%) 40.92 24.42 46.38 PAT/Networth (%) 27.66 18.76 49.57 Tax/PBT (%) 38.29 33.39 28.66 Total Debt/Networth (x) 0.37 0.39 0.71 Long Term Debt/Networth (x) 0.10 0.29 0.61 PBDIT/Finance Charges (x) 8.81 9.70 9.04 Current Ratio (x) 1.91 1.68 1.55 RM Inventory (days consumption) 119.92 154.95 37.70 FG inventory (days cost of sales) 18.07 2.44 1.01 Receivables (days gross sales) 52.57 67.28 33.81 Creditors (days cost of sales) 50.80 59.02 32.17 Op. curr. assets (days OI) 251.00 418.00 155.00 • The ideal current ratio is 2:1 and the current ratio of the year 06-07 has improved as compared to previous year which indicates that the funds are utilized efficiently. • An ideal debt equity ratio is 2:1.but the debt equity ratio of both the years is low which implies the use of more equity than debt, which means a larger safety margin for creditors since owners equity is considered as a margin of safety by creditors and vice-versa. 56
  • • The ideal quick ratio is 1:1. But the quick ratio of both the years slightly increases than the ideal ratio. Higher quick ratio means excessive amount of liquid assets have been invested. • Fixed Assets Turnover ratio has increased from 4.34 times to 9.35 times so it is a good sign for the company. • Gross profit has increased which is plus point for the company. This ratio should be adequate to cover the administrative and marketing expenses and to provide for fixed charges, dividends and building up reserves. Valuation of IPO • Titagarh Wagon limited earning per share on post-IPO fully diluted equity works out to be Rs 28.23. • At the offer price band of Rs 540 – Rs 610, the IPO is available at 19.13 at the lower price band and 21.61 at the upper price band to its FY08 annualized post-issue EPS. • The comparable listed peer for the company is Texmaco Ltd., which is now ruling at Rs.1, 300. Texmaco is likely to have a topline of Rs.700 crore, with PAT of Rs.55 crores, translating into an expected EPS of Rs.55 for FY 08, on an equity of Rs.10.44 crores. Book value per share of Texmaco is likely to be Rs.200 as at 31-03-08. This means share is presently ruling at a PE of 24 for Texmaco. • While comparing Titagarh with Texmaco, its book value post issue, would be close to Rs.200, if shares are issued at Rs.610 per share. The same would be at Rs.192, if shares are issued at Rs.540. Considering an expected EPS of Rs.31 for FY 08, share at the upper band is issued at a PE multiple of close to 20. Even post issue stake of promoters at 49% is close to 53% of Texmaco. FII stake of 38% in pre-issue instills confidence. 57
  • • Share at lower band of Rs.540 is quite attractive and at the upper band of Rs.610 also, leaves room for gain, as FY 09 performance of the company would be quite good. Hence it is recommended to subscribe to the issue. RECOMMENDATION OF TITAGARH WAGON LTD IPO 58
  • Industry: Wagon Manufacturer Price Band: Rs. 540-610 Recommendation: Subscribe GAMMON INFRASTRUCTURE PROJECTS 59
  • Issue Details Issue Opens March 10.2008 Issue Closes March 13,2008 Price Band Rs. 167-200 Face Value Rs. 10 Issue Size 16,550,000shares Listing NSE, BSE Company Background Incorporated in 2001, Gammon Infrastructure Projects Limited ('GIPL') is an infrastructure project development company promoted by Gammon India Limited, to participate in the development of infrastructure projects on a public private partnership ("PPP") basis. GIPL is among the first company in India to be modeled as an infrastructure developer holding company with investments spread across various sectors. GIPL currently undertake and development of infrastructure projects on PPP basis across sectors such as Roads & Expressways, Ports, Hydro Power, Urban infrastructure, Airports, Special Economic Zones, Water and Wastewater management, Railways, Power Transmission lines, and Agricultural Infrastructure. GIPL is present in the following areas of Infrastructure development: • Project Development • Project Advisory • Sector Specific Operations & Maintenance Currently infrastructure project development business includes thirteen projects, of which four are already in the operations phase, five are in the development phase and four are in the pre-development phase. Purpose of the Issue The objects of the Issue are to achieve the benefits of listing on the Stock Exchanges & to raise capital: 60
  • • To contribute to a part of the investment required by KBICL, subsidiary formed for design, construction, finance & maintenance of 1.8 kilometer long four-lane bridge across river Kosi; • To contribute to a part of the investment required by GICL, subsidiary formed for design, construction, finance & maintenance of 32 kilometer long four-lane bypass to Gorakhpur town on NH-28 in the state of Uttar Pradesh; • To contribute to a part of the investment required by SHPVL, subsidiary formed for developing the Rangit-II hydroelectric power project in the state of Sikkim; • Infusion of funds into MNEL, subsidiary formed for the four-laning of the 99.5 kilometers Vadape-Gonde section (between Mumbai and Nasik) • Meet general corporate purposes; • Meet expenses of the Issue in order to achieve the benefits of listing on the Stock Exchanges. Strengths • Operational BOT projects are a balanced mix providing assured return projects (annuity projects) and capturing market upside, i.e., traffic (toll projects). Of the three operational road projects, two are annuity projects providing assured return. The New Mattencherry bridge project in Cochin is a toll-cum-annuity-based project with the toll fully linked to the wholesale price index. Of the three road projects under development, two are annuity projects and one is a toll project. • With GIL, a leading construction company, as parent, has strong project execution capability with a timeline that can be counted/ leveraged on bidding. Has completed two of its BOT projects in Andhra Pradesh well ahead of schedule and earned a bonus of around Rs 16 crore from the National Highway Authority of India for early completion. Weaknesses 61
  • • Two multipurpose berths developed by Vizag Seaport (VSPL) have long-term take or pay clause with Sail covering the entire concession period. However, as Vizag Port is a major port covered under the Major Port Act, there is only limited freedom for fixing tariff as the Tariff Authority for Major Ports (TAMP) caps the tariff for private operators. Similarly, the offshore container berth and terminal project and Ballard Pier Container Terminal will also come under TAMP, leaving little pricing freedom for port operations. VSPL is in the red, with a loss of Rs 5.84 crore in the half year ended September 2007 and Rs 15.06 crore in the fiscal ended March 2007. • Though has the backing of a strong parent with long operational experience in the construction sector, the group has little experience in development and operation of power projects. Also, the long gestation of hydel-power projects with attendant issues ranging from rehabilitation, acquisition of forest land, and other environment factors are also a concern. Further, due to intense competition, the ability to win bids in consortium in verticals such as Mass Rapid Transit System (MRTS) and airports remains to be seen. • The Securities and Exchange Board of India (Sebi) conducted an investigation into certain alleged irregularities in the rights issue of GIL in 2001. It was alleged funds of promoter GIL were used by Chairman and Managing Director Abhijit Rajan, the promoter of GIL, for subscription to the rights issue. Based on the findings, Sebi passed an order prohibiting GIL and Abhijit Rajan along with two other companies controlled by Rajan from accessing the capital markets directly or indirectly. As a result, this IPO has already suffered a delay of over a year. • The Mumbai offshore container berth and terminal project and biomass project in Patiala and the cogeneration power project in Maharashtra are yet to achieve financial closure. Similarly, SHPVL has not achieved financial closure. The deadline for achieving financial closure has expired and this could land the project in rough weather as the government of Sikkim or any other nodal agency has the option to terminate the agreement. 62
  • • As GIL is the parent company and the construction contracts of the SPVs are handled by GIL, the collapse of a flyover constructed by GIL in Hyderabad in September 2007 has the potential to damage credibility during future biding. Fundamental Analysis Industry Rising Demand for steel pipes is expected to be higher in the medium term on account of increased exploration activities and thrust on setting up infrastructure to transport oil and gas. In India, rapid economic growth faces an urgent need to develop and improve water supply, which would also increase demand for SAW pipes. Depleting oil reserves have led to increased exploration efforts, resulting in more wells in the exploratory rig. Demand for seamless pipes is directly proportional to the increase in digging of wells which is also expected to remain high. India is expected to see a spurt in construction of pipeline infrastructure as the country’s spending on exploration and production (E&P) and gas related pipeline capex increases. It is expected that water and irrigation offer a very strong business opportunity in India, which will benefit Indian HSAW, ERW and DI pipe manufacturers, in addition to the opportunity from the energy sector. Company The Company follows a multi-product approach to pipes - offering a full product portfolio of LSAW (longitudinal submerged are welded), HSAW (helical submerged are welded), seamless, DI pipes, anti-corrosion coatings, connector casings and Hot reduction Bends. Its product portfolio allows it to comfortably straddle between value-driven products (DI and seamless pipes, which are high-margin segments) and volume-driven ones (SAW pipe business). 63
  • Besides LSAW and HSAW, It is increasing its focus on the water infrastructure sector in India. Your Company is currently one of the very few pipe manufacturers capable of offering a complete pipe solution to the water sector (ie, spiral pipes, ductile pipes and accessories). The DI pipe business gives your Company an opportunity to take advantage of the strong domestic capital expenditure cycle seen in the water transportation segment in India. A combination of increasing government focus to build water infrastructure and rising support from multilateral agencies (such as the World Bank and the Asian Development Bank) is likely to result in a strong demand for the DI pipes. Your Company is implementing capacity expansion in all the three key segments with expectation and targets for overall margin expansions. RATIO ANALYSIS\ As on 31-Mar-07 31-Mar-06 31-Dec-04 OPBIT/Prod.cap.empl.(%) 15.23 6.53 554.23 PBIT/Cap. Employed (%) 5.44 2.78 5.14 PAT/Networth (%) 3.94 1.41 2.76 Tax/PBT (%) 27.45 45.34 46.49 Total Debt/Networth (x) 0.00 0.00 0.06 Long Term Debt/Networth (x) 0.00 0.00 0.00 PBDIT/Finance Charges (x) 472.53 14.31 18.67 Current Ratio (x) 4.14 7.49 1.29 RM Inventory (days consumption) 0.00 0.00 0.00 FG inventory (days cost of sales) 0.00 0.00 0.00 Receivables (days gross sales) 89.23 116.73 144.14 Creditors (days cost of sales) 79.57 186.00 33.79 Op. curr. assets (days OI) 1105.00 2563.00 200.00 64
  • • The ideal current ratio is 2:1 and the current ratio of both the years exceeds the ideal ratio which indicates that the funds are not utilized efficiently. • Inventory is one area where management has achieved constant success. It has tried to reduce operating cycle of the division for which it was imperative to reduce the inventory storage periods consisting of the three components --- raw material, work in progress, and finished goods. The inventory turnover ratio is very high i.e70.2 which indicates overtrading and it may lead to working capital shortage. • The ideal quick ratio is 1:1. But the quick ratio of both the years increases than the ideal ratio. Higher quick ratio means excessive amount of liquid assets have been invested. • Fixed Assets Turnover ratio has very low in the year 2007-08 i.e. 0.74 which indicates that fixed assets remained idle and therefore management should investigate and determine the reason for decline. • Gross profit has increased which is plus point for the company. This ratio should be adequate to cover the administrative and marketing expenses and to provide for fixed charges, dividends and building up reserves. • Similarly net profit ratio also increases which is a good sign for the company. Valuation of IPO • In Gammon Infrastructure projects one fails to understand the logic of valuing the company at an expected market capitalization of Rs 2,500 crore even at the lower price band of Rs 167 per share and at Rs 2900 crore at the upper price band of Rs 200 per share. This is despite the fact that the books of the company show a debt of Rs 700 crore on completed projects and would be assuming a debt of Rs 1,886 65
  • crore for two road projects of 132 kms, one 66MW hydro power project and one bridge on river Kosi. Of these, a 100 kms road project has got just a 70% stake of the company. • The company is now going in for 10 more projects of which seven are in development phase and three are in pre-development phase. Of these 10 projects, financial closure has been made for four projects only. This implies that the balance sheet of the company, on consolidated basis, would keep ballooning with debt. • If we go by the comparative peers IRB Infrastructure, a company recently having gone public, have 512 kms of road, on toll basis in operation, including Mumbai Pune Expressway of 206 kms. Even this company has market capitalisation of just Rs 6,200 crore. Apart from this, IRB has 66% interest in a 1,400 acre realty project being developed near Pune. GVK Power, a player developing the Mumbai Airport, as also having interest in various road and power projects has a market capitalization of Rs 5,300 crore. Even the promoter of the company, Gammon India market capitalization is Rs 4,100 crore. So, on all the parameters, the valuation of the company looks quite stretched and over valued. • The expanded equity base of the company would be Rs 144.55 crore, which also looks quite high considering its level of activity. Even performance is not good enough to attract investors. Total income was at Rs 84 crore with PAT of Rs 10.95 crore. During FY07, total income was at Rs 109 crore with a PAT of Rs 29.85 crore. Hence it is recommended to avoid to the issue 66
  • RECOMMENDATION OF GAMMON INFRASTRUCTURE PROJECTS IPO 67
  • Industry: Infrastructure Development Price Band: Rs.167-200 Recommendation: Avoid FUTURE CAPITAL HOLDINGS LTD. 68
  • Issue Details Issue Opens January 11.2008 Issue Closes January 16,2008 Price Band Rs. 700-765 Face Value Rs. 10 Issue Size 491.3 crores Listing NSE, BSE Company Background FCH is the financial services arm of the Future Group; whic h is a business group focusing on consumption-led businesses in India and is also one of India's leading organized multi-format retailers. It was established in the year 2005 and is promoted by Pantaloon Retail India Ltd (PRIL) (the flagship company of the Future Group), Mr.Kishore Biyani (CEO and MD of PRIL) and Mr.Sameer Sain (a former MD of Goldman Sachs International). Och-Ziff, an international hedge fund, has invested in FCHL in June 2007. FCHL has three primary lines of business; investment advisory services, retail financial services and research. Investment Advisory Services It provides private equity and real estate investment advisory services to onshore and offshore clients. These investment advisory services include investment analysis, research and recommendations Retail Financial Services Its retail financial services ‘Future Money’, as a retailer offers financial products and services in India. It holds rights to provide financial products and services through the retail outlets which are owned, controlled or managed by PRIL and its subsidiaries. Its primary credit products currently include consumption loans, which are loans to finance the purchase of durables, furniture and other consumer goods, and personal loans. 69
  • Research Future Capital Research conducts and publishes economic research on India with the objective of enhancing value creation across other businesses. Purpose of the Issue • To expand its retail financial services business, in particular, the growth of loan portfolio. • To meet the long term working capital requirements of the company. • To meet issue related expenses and general corporate purpose. Strengths • FCHL is promoted by Pantaloon Retail (India) Ltd.(PRIL), the flagship company of the Future Group which is a business group focusing on consumption led businesses in India. • Within two years of operation the company’s operating income stood at Rs.38.96 crores in FY07. Till 30th September, 2007 (half-year) its operating income stood at Rs.31.2 crores... Weaknesses • Two of its subsidiaries had a negative net worth in the past three years. In division Investment Advisors Ltd. had a negative net worth of Rs.2.14 crores in FY06. Myra Mall Management Co. Ltd. had a negative net worth of Rs.0.65 crores as of September 30, 2007 and Rs.0.29 crores in FY07. • FCHL is having negative cash flow from operations amounting to Rs.9.74 crores for FY07. 70
  • Fundamental Analysis Strong background of Indian retail sector One of the pioneering groups to participate in the early stage of India’s retail story, Future group has over a decade experience and has developed understanding of the retail and consumption-led sectors. FCHL launched Future Money in June 2007, which offers financial products and services to individuals. Currently, it has a presence in 26 cities through 95 outlets across India. Its two main retail financial services products are consumption loans and personal loans. It also intends to distribute life and non-life insurance products in near future. Strong research division covering macro factors Company’s research business, Future Capital Research (FCR), conducts and publishes research on macro-economic trends in India. It has also developed proprietary indices to highlight trends in consumer behavior. Its reports are also utilized by its advisory division. In their recent publication ‘XX Factor: The Impact of Working Women on India’s Growth, Incomes and Consumption’, it analyzed the recent rise in women’s participation in the work force and the impact of this phenomenon on growth and consumption trends. Other publication included ‘Is Urban Growth Good for Rural India?” studying the urban demand could be an important engine, which would help to drive a shift from farm to non-farm employment in rural India. Its in-house research business would help FCHL to invest in the right segment and right locations. Dual role of advisory and managing real estate fund Currently, FCHL is the investment manager of the Rs3.5bn Kshitij Fund and also advisor to the investment managers of Rs13.7bn Horizon Fund and Rs7.8bn Indus Fund. It has 71
  • also recently entered into a joint venture to create expertise in warehousing logistics. Their real estate investment activities are in two separate areas of retail/ mixed use and hotels. Risks • Posted a net loss of Rs124mn in FY08. • Any downturn in Indian retail and consumption-led sectors would affect their business. RATIO ANALYSIS 72
  • • The ideal current ratio is 2:1 and the current ratio of both the years is almost near to the ideal ratio which indicates that the funds are utilized efficiently. • An ideal debt equity ratio is 2:1.but the debt equity ratio of both the years is low which implies the use of more equity than debt, which means a larger safety margin for creditors since owners equity is considered as a margin of safety by creditors and vice-versa. • Return on Capital Employed shows a negative in the current year which is not a satisfactory one. • Operating Profit Margin also decreases in the current year. Valuation of IPO 73
  • • FCH is demanding for huge premium on its shares, when compared with companies such as Reliance Capital, India bulls Financial Services, and IL&FS Investment Managers, based on price to earnings (P/E) multiple. • The company offers shares at P/E multiple of 137.79 at the floor price and 150.59 at the cap price (based on annualized earnings per share for first half of FY08, on pre issue capital of the company). • On the other hand, shares of its peers, Reliance Capital, India bulls Financial Services, and IL&FS Investment Managers were trading at P/E multiple of 64.72, 27.02 and 41.41(based on annualized earnings per share for first half of FY08 and share price as on Jan. 10, 2007) while the industry average is 42.8. • In addition, the limited financial history, together with losses of Rs 124 million in its books for first half of FY08 is cause of concern. • The business undoubtedly offers huge room for scalability; earnings visibility is extremely low at this juncture. • At Rs 765, the higher end of the price band, the offer values the entire business at a price-book value (P/BV) of about 6.6 times and Entrenched peers in banking/financial services with similar opportunities for growth — India bulls Financial, ICICI Bank and IDFC — are available at comparable valuations. Considering the above factors, it is recommended to avoid the Issue. RECOMMENDATION OF FUTURE CAPITAL HOLDINGS LTD IPO 74
  • Industry: Financial Price Band: Rs. 700-765 Recommendation: Avoid 75
  • CHAPTER 5 5.1 FINDINGS AND SUGGESTIONS 76
  • FINDINGS AND CONCLUSIONS  The pro-rata system of allotment favors investors who bid for relatively large numbers of shares. Perhaps, the process should be changed such that those applying up to 1,000 shares are allotted in full and beyond this number on pro-rata basis.  Book-building is preferred because the allotment of shares is generally done at a price determined by the lead merchant banker and issuer within the price band. Since QIBs are the dominant players and bid at somewhat higher prices within the band, the issuer and merchant banker fix the price at the higher end such that retail investors have to accept it. Thus, investors chipping in 35 per cent of the capital have little role in price discovery. As a matter of fact, the IPO demand curve is skewed by differing demands at different prices by various bidders. This indicates the need to use multiple pricing for allotment.  There is considerable amount of difficulties for an investor today in the IPO market starting from sourcing the application to filling it and submitting it along with cheques. When we have one of the world's best trading and settlement infrastructure available why can't we use that infrastructure rather than insisting on a parallel market for IPOs? This will be a good time to provide a direction to the IPO market as well to attract new investors into the market.  The grading process will not take into account price valuation, a key parameter in any stock investment decision. Said Prime Database MD Prithvi Haldea, The market does not work on fundamentals. A good company is a bad investment at a high price. The small investors, for whom the grading exercise is basically meant, would despite disclaimers expect a high graded IPO to quote above the offer price. The whole purpose of grading an IPO would be defeated if it cannot help an investor decide what stock to choose and at what price. 77
  • SUGGESTIONS Keys to a Successful IPO: At the end to make its IPO effective, some important considerations that should be kept are: Obviously, having a successful company to offer to the public marketplace is essential. Beyond that, it is important to recognize this in not a place for do-it-yourselfers. While the road show represents the formal coming out of the firm, its success will partially depend on the groups selected for the audience, and this, in turn, depends upon the lead investment banker/underwriter in the IPO. Choosing the right underwriter is probably second in importance to choosing the right time to go public. The essential elements to look for in the ideal lead underwriter are as follows: 1. The underwriter is focused on your industry: The IPO marketplace is a crowded marketplace and the significant sums you are spending for professional advice to go public need to be targeted to a firm with real expertise in your industry. Partial evidence of appropriate expertise would be having an analyst devoted to your industry. 2. The market relies heavily on analyst projections and recommendations: Specifically, the underwriting firm's analyst in your industry must: • Have the capacity to cover your company with sufficient attention. • Understand your company, customers, and competition. • Indicate sincere commitment to covering your company. 3. Due to the importance of a successful road show, the underwriter must have the ability and contacts to identify the right investor groups for your presentation and get them committed to attend. References from previous IPO successes are essential. 4. There must be sufficient evidence of being able to build a quality "book" of potential orders for your stock. 5. There should be a history regarding the ability to identify the right offer price and size. 6. Finally, but rarely understood by many companies, there must be significant aftermarket support in terms of maintaining and supporting trading in the stock, providing subsequent research reports on the company, and continuing institutional exposure to the company. 78
  • REFERENCES BOOKS 1. Khan M. Y .and Jain. P.K (2005). Financial management. Pearson publications WEBSITES • www.moneycontrol.com • www.capitalline.com • www.nseindia.com • www.sebi.gov.in • www.capitalmarket.com • www.wikipedia.com • www.intimesepctrum.com • www.thehindubusinessline.com • www.financialexpress.com • www.myiris.com • www. icra ratings.com NEWSPAPERS 1. Economic Times 79 http://www.icraratings.com/ http://www.myiris.com/ http://www.financialexpress.com/ http://www.thehindubusinessline.com/ http://www.intimesepctrum.com/ http://www.wikipedia.com/ http://www.sebi.gov.in/ http://www.nseindia.com/ http://www.capitalline.com/ http://www.moneycontrol.com/