Engineers India FPO A Value BUY

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1 Engineers India FPO A Value BUY FPO Floor Pricing: Rs 189/share. Retail gets a 5% discount Issue Period: 29th Jan 2016, one day only Advice: Investors can BUY with a 2 year perspective A quality report by JainMatrix Investments 29th Jan 2016, CMP: Rs 194 Mid Cap Mkt Cap 6500 crores Overview: Engineers India is a PSU Mini Ratna engaged in providing engineering and technical services and turnkey projects for the Oil & Gas sector since It has broadened its activities to related areas. With a HQ in Delhi, company has branches offices in India and abroad. EIL s growth slowed in the last few years, in line with a slowdown in investments in the sector. However we feel that with the end of the subsidy regime in Indian Oil & gas, and the fall in crude oil prices, the sector is in a turnaround situation. Firms are seeing good refining margins, marginal subsidy issues and robust demand. They are gearing up for capacity and technology upgradation. While revenue and profits at EIL have fallen in 3 years, the share price too fell proportionally. EIL has conservatively preserved cash, built additional capabilities and new growth areas and is poised to recover financially as the sector turns around. Overall Opinion: We feel EIL is a value BUY for investors in this FPO. Here is a note on the Engineers India Ltd (EIL) Follow on Public Offer (FPO). FPO Offer The FPO floor price is Rs 189 per share; Applicants may apply at this price, or above, or at Cut Off. There is a 5% discount for Retail investors. 20% of the FPO offer is reserved for Retail investors. Issue date is Feb 29 th Jan, 2016 between 9.15 am to 3.30 pm. The govt. has proposed to sell 3.36 cr equity shares (10%) of stake through an offer for sale (OFS). The govt. is selling this to meet its FY16 divestment targets. The OFS could fetch the govt. almost Rs.635 cr, based on the pricing announced today. P/E as on 27 th Jan, 2016 closing price is 23.5 times, which appears high. Introduction EIL is a PSU engaged in engineering consultancy and turnkey implementation of petrochem projects. Turnover and profits were Rs 1,713 crores and Rs 308 cr. resp. in FY15 Market Cap is 6538 cr. It has 3192 employees. The focus was Oil & Gas projects, but it is diversifying into Fertilizer, LNG, Non-ferrous metallurgy, Infrastructure, Nuclear & solar energy, strategic crude oil storage, and E&P. The Delhi based firm is expanding from mostly Indian projects, to execution in MENA and South East Asia. Additionally, offices in London, Milan and Shanghai are for procurement and marketing there. Business revenues consists of Consulting and Turnkey segments. The former is steady while the latter is cyclical and dependent upon the projects completed. Margins are high for Consulting, but lower & variable for Turnkey projects depending on execution. See Fig 1. We can see that FY12 was a peak year, and business appears to be falling from here.

2 Fig 1 EIL business segments The pre FPO shareholding pattern is Govt. /Promoter holds 69.4%, FIIs 6.5%, DIIs 13.1% and Retail 7.5% and Others 3.5%. Here 10% of govt. stake will transfer to other categories through the FPO. Business Notes and Recent events The Housing and Urban Development Department and Engineers India Limited (EIL) signed a MoU in Jan 2016 to provide end-to-end support for design, development, implementation and integrated management of projects like water supply, sewerage, storm water drainage and urban transport in nine Atal Mission for Rejuvenation and Urban Transmission (AMRUT) towns of Odisha. Mr Sanjay Gupta took over as the CMD of EIL in June EIL received orders worth 150 crore from clients in West Asia since April. These orders came through its Abu Dhabi office were from oil and gas companies as well as through EPC contractors. EIL earns about 10% of its revenues from exports. Stock evaluation, Performance and Returns Fig 2 Price History Investors in EIL over the last 7 years has seen the share fluctuate from a high of Rs 538 in May 2010 to a recent low of Rs 123 in Aug The FPO price is 54% higher than this recent low. See Fig 2. The dividend at 120% on a FV of 5, provides a dividend yield of 2.39%. Margins too have fallen but appear to be stabilizing. ROCE and RONW are currently at 18.4% and 11.9% respectively.both these parameters have witnessed a sharp fall over the years. This is a negative. Report by JainMatrix Investments Page 2/5

3 Fig 3 - Quarterly Financial P/E Fig 4 - Cash Flow and Dividend Cash from operations and Free Cash Flow have been positive over a 7 year period. It is because of the nature of consulting business. As a result EIL has good cash reserves and zero debt. The cash on hand is Rs.2,419 cr (FY15), which translates to Rs 72 per share of cash. The investor is actually buying the operating business of EIL for (189-72) = Rs 117. This cash on the balance sheet may be used for expansions, M&A or dividends. The 7 year historical average PE is displayed in Fig 5. The average is 17.5 times and range 7.5 to 27.5 times. Current P/E is 23.5 times which is in the Overpriced top quadrant as per the chart. Report by JainMatrix Investments Page 3/5

4 EPS TTM Fig 5 Price and PE Chart Fig 6 Price and EPS Chart Fig 7 Booked to bill ratio Report by JainMatrix Investments Page 4/5

5 The Price and EPS chart Fig 6 indicates that the reason for the rising PE is the fall in EPS. After a sharp fall, EPS is stabilizing around Rs 8-9 levels for 4 quarters, and looks poised to rebound. A key ratio is Orders Booked to Revenues Billed. See Fig 7. A 7 year view shows that the ratio is improving. However this is because of dropping revenues rather than rising Orders booked. This is a red flag for the short term investors. Benchmarking In the benchmarking exercise we compare EIL with some peers. See Exhibit 8. Sales (Rs. in Cr.) (FY15) Net Profit (Rs. in Cr.) Market Cap- crores PE (x) Price to Book Value (x) Dividend Yield (%) EBITDA Margin (%) Net Profit Margin (%) Yr CAGR Sales (%) Yr CAGR Profit (%) Return on Capital Employed (%) Return on Equity (%) Exhibit 8 - Financial Benchmarking EIL has a good position in terms of margins and dividend yield. It s negative in terms of growth parameters and returns ratios. In the light of a contracting Oil and Gas sector, we can see that EIL is preserving its balance sheet and riding out this bad period. With a low P/B, there may be value emerging in this stock. Overall Opinion The Oil & Gas sector of India is PSU dominated with the likes of OIL, HPCL, ONGC, GAIL, PLNG, etc. EIL is an engineering consultant and implementation leader in this sector. Its growth has slowed in the last few years, in line with a slowdown in investments in the sector. However we feel that with the end of the subsidy regime in Indian Oil & gas, and the fall in crude oil prices, the sector is in a turnaround situation. Firms are seeing good refining margins, marginal subsidy issues and robust demand. They are gearing up for capacity and technology upgradation. While revenue and profits have fallen in 3 years, the share price too has fallen proportionally. EIL has conservatively preserved cash, built additional capabilities and growth areas and is poised to recover financially as the sector turns around. We feel EIL is a value BUY for investors in this FPO. Disclaimer Particulars EIL Mindtree AIA Engineering VA Tech Wabag This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as infor mation and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. Punit Jain has a small holding in EIL since Feb Other than this, JM has no known financial interests in EIL or any related firm. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any equity investments will depend upon the recipient's particular circumstances and, in case of doubt, advice should be sought from an independent expert/advisor. Punit Jain has applied for certification under SEBI (Research Analysts) Regulations, Any questions should be directed to the director of JainMatrix Investments at punit.jain@jainmatrix.com Report by JainMatrix Investments Page 5/5