Cochin Shipyard is entering the primary market on Tuesday 1^st August 2017, with a fresh issue of 2.27 crore equity shares of Rs. 10 each and an offer for sale (OFS) of 1.13 crore equity shares by the Govt. of India, both in a price band of Rs. 424 to Rs. 432 per share. Coming from the Govt. stable, the issue offers discount of Rs. 21 per share to retail investors, which is quite attractive, at ~5% of issue price. Representing 25% of the post issue paid-up share capital, the IPO will raise Rs. 1,443 crore at the upper end, of which, OFS portion is Rs. 481 crore. Issue will close on Thursday 3^rd August and listing is expected on 11^th August.

99.99% subsidiary of the Central Government, Cochin Shipyard, a ‘Mini Ratna’ company, is India’s largest public sector shipyard, with one of country’s largest ship repair docks of 1,25,000 DWT capacity and a ship building dock capable to accommodate vessels upto 11,00 DWT capacity, on India’s western coast at Kochi, Kerala. Company undertakes both defence and commercial orders, with former accounting for ~80% of revenues, the most recent feat being building India’s first indigenous aircraft carrier (IAC) for the Indian Navy. Shipbuilding accounts for ~80% of revenue, and balance comes from ship repair. Given the nature of operations, client concentration risk is high, as 85% revenue is contributed by top 2 clients - Indian Navy and Indian Coast Guards.

FY17 revenue grew 3% YoY to Rs. 2,059 crore, with healthy EBITDA margin of 25.7% being earned, entailing an EBITDA of Rs. 529 crore, up 6% YoY. PBT of Rs. 480 crore was clocked in FY17, resulting in a PBT 23% margin. Company has cash and equivalents of Rs.1,991 crore (31-3-17), on mearge debt of Rs. 123 crore. This huge cash pile, led to high interest income, which stood at Rs. 126 crore for FY17, representing 1/4^th of PBT. Excluding recurring interest income, operating PBT margin stands at 17%.

Given healthy operating margins and significant other income, company’s net margins are also very strong at 14%, as net profit of Rs. 213 crore was clocked in FY17, which translates into an EPS of Rs. 27.56, on an equity of Rs.113 crore. At Rs. 3,300 crore, company’s order book position (31-3-17) is also robust, representing 1.6x of FY17 revenue. As of 31-3-17, it had net worth of Rs. 2,031 crore, translating into BVPS of Rs. 179. Of this, net cash per share stands at Rs. 165.

As existing capacities are well-utilised, company is undertaking expansion, to be completed over the next 3 years, for (i) setting up new dry dock at existing premises at estimated capex of Rs. 1,800 crore, of which, Rs. 443 crore will be funded via fresh issue and (ii) setting up a ship repair facility at Cochin Port Trust area for Rs. 970 crore, of which, Rs. 230 crore will be met through fresh issue. Rs. 670 crore of fresh issue proceeds will fund the capex, post which, company’s capacity will augment by approximately 60-70%.

Of this capex of Rs. 670 crore, fund requirement worth nearly Rs. 550 crore is spread over FY21-23 i.e. after 3 years. Since company is cash rich, coupled with ability to earn annual cash profit of Rs. 350 crore, it is really not in need of funds. Thus, IPO seems structured only to meet GoI’s divestment target and minimum public sharholding norms. Nevertheless, fundamentals of the company are very sound.

At Rs.432, company’s market cap will be Rs. 5,872 crore and and enterprise value at Rs. 4,004 crore, which lead to PE and EV/EBITDA multiples of 16x and 8x respectively, based on FY17 earnings. If one was to split the earnings between operating and non-operating income, 1/3^rd EPS is generating through non-operating interest income, while 2/3^rd comes from core operations. Thus, effective earnings multiple for core business operation is much higher (at approximately 20x), which is still attractive.  

Based on current year FY18 estimates, the PE and EV/EBITDA multiples of the issue are 15x and 7x respectively. Peers Reliance Defence, ABG Shipyard, Bharati Shipyard are all reeling under heavy losses. Since company has Govt’s blessings in the form of steady order flow, it has managed to tide over difficult times very smoothly, in addition to building a strong foundation fundamentally. The huge cash on hand provides the much needed cushion in this heavily cyclical business.

To summarise, healthy order book, cash surplus balance sheet position, healthy margins and consistent financial performance are key positives for the issue. Enterprise value of Rs. 4,000 crore is making the pricing very attractive, which may invoke huge investor participation. Rs. 21 discount for retail investors is an added sweetener.

IPO of Cochin Shipyard is a safe and sound bet, capable to deliver steady returns, making it a subscribe. 

Disclosure: No Interest.