Acropetal Technologies is entering the capital market on 21^st February 2011 to raise Rs. 170 crore via a fresh issue of 1.89-1.93 crore equity shares of Rs.10 each, in the price band of Rs. 88 to Rs.90 per share. The issue, comprising of 48.6-49.1% of the company's post issue paid-up capital, depending on the price at which the book gets discovered, closes on 24^th February 2011.

The company provides IT/ITES and enterprise solutions in the healthcare services, retail, energy and infrastructure space, mainly to overseas clients through delivery centres in India and UAE. For FY10, it posted consolidated revenues of Rs. 152 crore and earned PAT of Rs. 36 crore, recording net margins of 23.5%. However, in the first nine months of FY11, although consolidated revenues increased to Rs. 148 crore, net margins contracted to just 19.2% on PAT of Rs. 28 crore.

Company's present equity stands at Rs. 20 crore, which will rise to about Rs. 39 crore, post-issue, which is considered very high to service (at historical dividend rates of 10-12%), given its scale and nature of business operations. Also, the company is undertaking very heavy dilution to the extent of 49%, via the IPO, again a negative. Promoter holding will decline from present 85.7% to almost 44% post-issue.

The company is establishing a software development centre and corporate office on self-owned land in Bangalore at a cost of Rs. 26 crore, to be funded through the IPO proceeds. Initially, the delivery centre will have 200 seats, augmenting the current employee strength of 540. However, the establishment cost of this Bangalore centre is likely to go over-budget since the estimates / quotes received by the company are a year old (dated 21^st Dec 2009 and 5^th Mar 2010) which are likely to get escalated as the actual execution unfolds. From the funds raised via the IPO, Rs. 25 crore each will be deployed towards working capital and part loan repayment.

A couple of objects of the issue seem to be very loose:

• Overseas acquisition worth Rs. 55 crore (comprising 35% of net IPO proceeds) for which a target is not yet identified by the company,
• Setting-up of 8 offices, five in US and one each in UK, Singapore and Dubai, for a total consideration of Rs. 19 crore (average per office cost Rs. 2.4 crore) for which agreements have yet to be entered into.

Also, public issue expenses of Rs. 15 crore, amounting to 8.8% of total issue size, are on the higher side.

As on 31^st December 2010, company's networth stood at Rs. 131 crore while it had total outstanding debt of Rs. 132 crore. The IPO proceeds will not suffice the additional working capital requirements and an estimated Rs. 29 crore fresh loans will be secured by the company from banks, only adding to the already high interest outgo, of over Rs. 10 crore clocked in the nine months between Apr-Dec 2010.

A major detriment to the company's future bottomline is the expiry of tax incentives u/s 10A of the Income Tax Act on 31^st March 2011. Thus, the company paying almost nil taxes at present, will see significant shrinkage of margins and net profits FY12 onwards, which should narrow the already contracting net margins from 23.5% in FY10 to 19.2% in 9mFY11, further.

Additionally, the company's customer base is quite small and concentrated. On a standalone basis, top 5 customers contributed 54.88% while top 10 customers accounted for 87.10% of operating income for 9mFY11. There seems to be some discrepancy in reporting the contribution from top customers by the company in its RHP. While page 204 of the RHP states the percentages as mentioned above, page 212 gives customers contribution as 98.44% and 99.50% of total income from operations for top 5 and top 10 clients respectively, for the 9 months ended December 31, 2010. Surely some oversight here!

Coming on to the valuations of the primary offering, at the upper band of 90, share is being issued at pre-money PE multiple of 4.74x, based on estimated FY11 EPS of Rs. 19, given Rs. 14.20 has been earned on per share basis in first nine months of fiscal 2011. This is not very attractive given that other smaller IT companies such as Nucleus Software and Omnitech are ruling at PE multiples of 3-4x, thus not leaving much on the table for the IPO investors.  

Moreover, on annual sales of Rs. 200 crore, the company is seeking post-listing market cap of Rs. 350 crore and EV of Rs. 443 crore, at upper band of Rs. 90. This is a very steep asking price, given the uncertain secondary market conditions as well as company- specific concerns like expiry of tax holiday in the next 2 months, high interest burden and heavy promoter dilution.

We are not enthused by the issue. One can give this a miss and look for more attractive opportunities in the already-listed space.