Shankara Building Products is entering the primary market on Wednesday, 22^nd March 2017 to raise Rs. 45 crore via a fresh issue of equity shares accompanied by an offer for sale (OFS) of upto 65 lakh equity shares of Rs. 10 each, by promoter and Fairwinds (formerly Reliance PE), both in the price band of Rs.440 to Rs.460 per share. Representing approximately 33% of the post issue paid-up share capital, issue will raise Rs. 345 crore at the upper end, of which OFS portion is the majority, worth Rs.300 crore. Issue closes on Friday 24^th March and is likely to list on 4^th April. 

Shankara Building Products, a first generation entrepreneurial venture started in 1995 by IIM-A alumnus Sukumar Srinivas, retails home improvement and building products (such as cement, TMT bars, pipes, tubes, solar heaters, tiles, sanitary ware, kitchen sinks, plywood, lighting, paints etc.) through 103 ‘Shankara Buildpro’ stores, located in South and West India, primarily Karnataka, Telangana and Andhra, aggregating 3.9 lakh sq ft of retail area. Besides retail (which accounts for 42% of current topline, up from 22% in FY13), enterprise and channel sales (through 1,924 dealers) make up for 33% and 25% of sales, respectively.

Company is an integrated player having 3.23 lakh MTPA processing facilities (operating at 94% utilization levels), 56 warehouses (6 lakh sq. ft.) and 44 owned trucks for last mile delivery. In addition to third party brands, company offers a bouquet of own brands for steel pipes, colour coated roofing sheets, bright rods, galvanized and cold rolled strips, under CenturyRoof, Ganga, Loha, Taurus, Prince Galva, which bring in nearly 50% of the sales currently, thus aiding margins. It same store sales growth (SSSG) of 24% in FY15 and 29% in FY16 were healthy.

From FY12 to 9MFY17, company’s cost of materials has contracted from 90.4% of revenue to 86.1% of revenue, which has in-turn expanded EBITDA margin from 5.0% to 6.4%. Due to tight control on costs (employee and other operating costs) at sub-8% of turnover, company has been able to grow margin steadily (albeit being thin), as share of retail pie enlarges. It aims to increase retail share to 65-70% over the next few years.

Although FY16 revenue, at Rs. 2037 crore, was up only 3% YoY, EBITDA grew 33% YoY to Rs. 120 crore, as share of retail in total sales increased from 31% in FY15 to 40% in FY16. Net profit grew at a faster pace, up 83% YoY at Rs. 41 crore, as against Rs. 23 crore in FY15. Profitability for first nine months of FY17 continues to strengthen, as EPS of Rs.19 outpaced FY17’s EPS of Rs. 18.90. Net margin during 9MFY17 strengthened to 2.4% (net profit Rs. 42 crore) versus FY16’s 2.0% and FY15’s 1.1%.

As of 31-12-16, company’s equity is small at Rs. 21.87 crore while networth was Rs. 332 crore. Promoter holding is 62.45% which will contract to 56.20% post IPO, while Fairwinds PE’s stake will decline to 7.18%, from 33.59% currently. Company’s total debt stands at Rs. 280 crore, most of which is short-term, for working capital. Fresh issue proceeds of Rs. 34 crore will be used for debt reduction, taking debt below Rs. 250 crore, which will in-turn lower debt equity ratio to 0.65:1, keeping it within comfortable limits.

Due to acquisitions in FY10 and FY13, company’s return on equity dwindled (to as low as 8.9% and 12.3%), as earnings did not keep pace, coupled with capital getting blocked. However, things seem to be normalizing for the company, with 9MFY17 annualised return on equity inching towards 17% pa mark.

At the upper end of the price band, company’s market cap will be close to Rs. 1,050 crore and EV about Rs. 1,300 crore, which discounts annualized 9MFY17 earnings by EV/EBITDA and PE multiples of 18x and 9x respectively and by 16x and 8x, based on FY18 estimates, which is not very aggressive. Company has a unique business model, with no direct peers in the listed space. If compared with listed retailers, they are currently trading at EV/EBITDA and PE multiples of 20x+ and 35x+ respectively, while tube and pipes makers (APL Apollo Tubes, Ratnamani Metals) are ruling at PE multiples above 20x, so are cement players. However, these are only very broad-based comparisons, but still help narrow down comparisons.  

Government’s thrust on Housing for All by 2022 and sops towards it will provide the much needed boost to the sector. Besides, many biggies are attracted by the sector prospects, take for instance paint leader Asian Paints increasing its presence in home improvements space through the inorganic route and scouting for more opportunities. Thus, macros hold promise.

Shankara is an interesting play, due to its first-mover advantage, negligible competition in the organized space, low cost structure, well capitalized balance sheet and increasing retail revenue pie. For future growth, it does not require further equity dilution and has added stores at a healthy pace (15% CAGR since FY14), which will mature going forward.

While short-term challenges of thin margins and moderate growth remain, over the long term, Shankara can unfold into a good story. Since pricing is not too steep, one can apply to the issue, with a long term view.  

Disclosure: No Interest.