MAN Industries (India)

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1 Visit us at MAN Industries (India) Piping hot May 21, 2009 Emerging Star Buy; CMP: Rs42 Price target: Market cap: Company details 52-week high/low: NSE volume: (No of shares) Rs66 Rs223 cr Rs106/ lakh BSE code: NSE code: code: Free float: (No of shares) Non-promoter corporate 6% May-08 Shareholding pattern Public & Others 19% Aug-08 Promoters 47% Price chart Nov-08 Price performance MANINDS MAN 2.8 cr Foreign 15% Institutions 13% Feb-09 May-09 (%) 1m 3m 6m 12m Absolute Relative to Sensex Key points A smart play on the pipe sector: With equal capacity for both HSAW and LSAW pipes, MAN Industries (India) Ltd (MIL) offers an exciting play on the Indian pipe industry. The pipe makers around the world are expected to benefit from the expected revival in global E&P capex on the back of the hardening crude oil prices and allaying concerns over the global economic scenario. The global opportunity for pipes is pegged at over $80 billion over the next few years while the domestic opportunity remains strong led by the heavy capex of GAIL, GSPL etc. Strong order book: With the win of a huge order of Rs1,340 crore from the Persian Gulf, the current order backlog of the company stands at Rs2,000 crore. MIL also has L1 position in orders worth Rs1,100 crore which are likely to be awarded soon. Moreover, the margins were maintained in FY2009 despite a challenging environment and we expect them to sustain going forward as well. Capacities already expanded; US plans put on hold: In the last couple of years, MIL has substantially raised its capacity to 1 million tonne currently. With its capex already completed, it does not have any meaningful capex lined up for the future. It has also put on hold its plans to set up an HSAW plant in the USA. In fact, the company has decided to buy back its FCCBs and the purchase would be funded out of the unutilised FCCB money and internal accruals. Realty portfolio adds to the attraction: MIL s subsidiary, Man Infra, is currently executing two commercial projects in Bandra and Vile Parle, and one residentialcum-commercial project at Nerul. In our valuations, we have not considered the value of the real estate portfolio as the realty business is at a very nascent stage. However, we have valued the realty projects of the group at Rs103.4 crore and if this value is included in our estimates the same could add about Rs19 to the sum-of-the-parts valuation. Attractive valuations: The stock is currently trading at about 3.1x FY2011E earnings and at an EV/EBIDTA of 1.2x, which is significantly lower than its historic average (of about 9x). With an expected revival in the industry, the valuation multiples are likely to improve. Further, its valuation gap with the larger pipe makers had widened significantly in recent times but the same is likely to narrow down. Assuming a substantial discount to the average multiple, we have valued MIL taking the average of 5x one-year forward PE multiple and 2x one-year forward EV/EBIDTA multiple. We recommend a Buy on the stock with a price target of Rs66. Key financials FY2007 FY2008 FY2009 FY2010E FY2011E Net sales (Rs cr) 1, , , , ,843.7 Net profit (Rs cr) EPS (Rs) % yoy growth PER (x) P/B (x) EV/EBIDTA (x) RoCE (%) RoNW (%) Ltd A-206, Phoenix House, 2nd Floor, Senapati Bapat Marg, Lower Parel, Mumbai , India.

2 Company background Incorporated in 1998 by RC Mansukhani, MIL is the flagship company of the MAN group and manufactures submerged arc welded (SAW) pipes (both spiral and longitudinal) and coating systems for high-pressure applications like transportation of oil, gas and other petrochemical products. The company has two plants located in Prithampur, Madhya Pradesh (central India) and Anjar, Gujarat (western India). It has a total capacity of 1 million metric tonne per annum (mmtpa) with an equal capacity for both helically SAW (HSAW) and longitudinally SAW (LSAW) pipes. It had plans to set up an HSAW facility in the USA but the same has been deferred as of now. The company is a well known player in the industry with an impressive client list comprising Shell, Petrobras, Technip, Bechtel Corporation, Saipem and Petronas among others in the international markets, and Gas Authority of India Ltd (GAIL), Cairn India, Indian Oil Corporation, Reliance Industries, Bharat Petroleum Corporation, Hindustan Petroleum Corporation, Oil and Natural Gas Corporation and IBP in the domestic market. MIL's facilities also hold internationally accepted quality standards laid down by the American Petroleum Institute, which is a mandatory requirement for the production of highpressure line pipes for hydrocarbon applications. Investment arguments Stable oil prices likely to revive E&P spend According to Simdex data, over 3.01 lakh kilometre of global line pipe demand is expected to come from 629 projects in the pipeline currently over the next few years. Assuming pipe consumption of about 300 tonne per kilometre and an average realisation of USD900 per tonne, the demand for pipes can exceed USD80 billion globally. After touching a bottom of about $32 per barrel in December 2008, crude oil prices have jumped substantially and are showing signs of stabilising around the $50-60 per barrel level, indicating that the worst might be over for the commodity. The sharp decline in crude oil prices and the weak global economic outlook had led to substantial curtailment of global oil exploration and production (E&P) spend, as major oil and gas companies had slashed their expenditures anticipating lower returns and declining cash flows. With the firming up of the crude oil prices again, some of these concerns have been allayed. As a result, the crude oil spend is likely to steadily revive, benefiting the global pipe industry. Given the cost competitiveness of the Indian manufacturers in the domestic market and the Middle-East, and the already approved status of some of the Indian pipe makers in certain western markets, all Indian manufacturers are likely to benefit from this huge opportunity. Future pipeline projects Particulars No of Total length Avg length projects (km) (km) North America , Latin America 51 33, Europe 94 45, Africa 43 15, Middle East 86 38, Asia , Australasia 59 15, Total , Source: Simdex On the domestic side, we believe that the investment climate would remain buoyant for the domestic pipe makers with the total demand pegged at 21,000 kilometre over the next five years, mainly led by the heavy capital expenditure (capex) from GAIL. The industry did not see any major cuts in its capex in the recent past, though the placement of some of its orders was delayed on account of wild fluctuations in the commodity prices. GAIL is expected to implement ~6,500 kilometre of pipelines planned under the National Gas Grid in the next four to five years. The company would invest more than Rs18,500 crore to construct eight new gas corridors. Besides, Reliance Industries, through its subsidiary Gas Transportation and Infrastructure Co, has outlined investments in gas transportation and distribution from the Krishna-Godavari Basin. Company Demand (kms) Gas pipelines GAIL 6,495 GSPL 741 RIL (GTICL) 8,624 Crude and product pipeline IOC 1,194 BPCL 686 HPCL 183 TOTAL 17,923 Source: Pipe & Gas Journal Apart from the oil and gas industry, there exists huge potential in the water transportation segment, which is expected to witness a strong growth too, considering the government s thrust on improving the country s water infrastructure. MIL a stable pipe play with a good business mix MIL has a stable and a fairly de-risked business model, with equal capacity for both LSAW and HSAW pipes. Its presence in both the segments somewhat insulates it from any significant risk associated with any one of the segments. The company has aggressively expanded its capacity in the last three years in order to ride on the 2 May 2009

3 booming pipe sector and has placed itself well to take advantage of the revival in the industry. The company also has a fairly good track record of maintaining its profitability. What s more, even in the last year it had maintained its margins despite a challenging environment. Moreover, its strategic location near the port of Kandla and Mundra add to its export competitiveness, while the integrated pipe plant with its own coating facility also gives it a greater competitive edge. Strong order book provides medium-term visibility MIL has a strong order book, which is worth Rs2,000 crore as of now (400,000 tonne in tonnage terms). The order book received a boost from the recent win of a Rs1,340- crore order from the Persian Gulf region. MIL also has L1 position in orders worth Rs1,100 crore, out of which an order of Rs800 crore from GAIL is likely to be awarded in a couple of weeks. With the crude oil prices firming up, the E&P spend and resultantly the order inflows for pipemakers should be back on track. Out of the current order book of MIL, about 70% is from the export markets while the balance is from the domestic market. The company s strong order book would drive its earnings in FY2010 and the same remains a key monitorable with relation to MIL s growth in FY2011. On the export front, MIL has presence across the world, having executed orders in the key global markets such as the Middle-Eastern markets, the Persian Gulf, the USA, Nigeria, Iran and Latin America. Majority of its capex already done; US plans put on hold In the last couple of years, the company has substantially raised its capacity from 425,000 tonne in FY2006 to 1,000,000 tonne currently. It successfully raised its capacity by almost 4 lakh tonne per annum (TPA) at Anjar recently. Its domestic capex is complete and it does not have any more expansion plans. It will now focus on increasing the utilisation of its existing plants. The company was plannig to set up a facility in the USA and had even acquired land in Arkansas (USA) for putting up a 300,000MT HSAW plant. However, the project has been put on hold because of the extreme slowdown in the US markets. Particulars Pithampur Anjar Total (MP) (Gujarat) L- SAW pipes (MT) 135, , ,000 H- SAW pipes (MT) 25, , ,000 Coating systems 2 mn sq m 2 mn sq m 4 mn sq m Margins likely to remain stable The company has been able to improve its margins in the last few years on the back of a booming industry, increased efficiencies and expanded capacities. Even during the last year, the company was able to maintain its margins despite a challenging environment. We believe that the margins are likely to be maintained at FY2009 levels going forward and understand that MIL would earn similar margins from the recently won orders. Moreover, the higher capacity utilisation at its Anjar facility would enable MIL to substantially reduce its logistic cost due to its proximity to the ports of Mundra and Kandla. It is also unlikely to aggressively bid for orders at the cost of margins, though in our assumptions we have forecast the margins would come down slightly going ahead. We expect the company to report an earnings before interest, depreciation, tax and amortisation (EBIDTA) margin of 9% in FY2010, which might further contract to 8.8% by FY2011. Real estate portfolio a sweetener MIL has entered the real estate business and currently undertaken three projects in Mumbai, two commercial projects in Bandra (0.1 million square feet) and Vile Parle (0.1 million square feet), and one residential-cumcommercial project at Nerul (0.5 million square feet). MIL has 58% stake in these ventures while the balance is held by the promoters. The two commercial projects are likely to be completed in a year s time and the other project at Nerul is likely to be completed in two years. Importantly, the fund requirement for all the projects has already been tied up, thereby reducing the execution risks associated with these projects. At a later stage the company plans to hive off this division and unlock its value. Healthy balance sheet; good return ratios The company s board has approved the buy-back of its $50 million worth foreign currency convertible bonds (FCCBs) as the investment plans have been deferred. The FCCBs were with a tenor of five years and one day, and were convertible into equity shares at a price of Rs287 per share. With the FCCB buy-back, there would not be any equity dilution, which is a positive for the earnings of the company. About $10 million of the FCCB money remains unutilised, which along with internal accruals will be used to fund the proposed buy-back. MIL does not have any significant capex plans as of now, what with its domestic capacity having already increased after the expansion at its Anjar facility last year. The company can also possibly buy back its shares. Its balance sheet remains good, with the debt/equity ratio at 0.85x currently (FY2008); the same might come down with the buy-back of the FCCBs. The return ratios for the company have been impressive all along: The company commanded a return of 22.8% on capital employed and a return of 19.4% on net worth in FY May 2009

4 Key concerns A drop in crude oil prices could hamper any potential expansion of pipeline capacity and the E&P projects, thereby denting the demand for pipes. Any delay in order execution or any cancellation of orders could affect MIL s earnings. Furthermore, a slower than expected order inflow could affect our future estimates. Valuation and view The strong order book of MIL would drive its earnings in the current year. We also expect a stable performance in the next year. We are likely to see a steady revival in the E&P spend on the back of the hardening crude oil prices and the revival of business confidence in the industry, which should benefit the pipe makers. Consequently, the order inflows are likely to pick up steadily, which should improve the visibility of revenues for FY2011 as well. At the current market price, the stock is trading at about 3.1x FY2011E earnings and at an EV/EBIDTA of 1.2x, which is significantly lower than its historic average. Though historically, MIL has traded at about 9x one-year forward earnings, but it has also tested distress valuations of 1x one-year forward earnings in the past. With a revival expected in the industry, we believe that the valuation multiples are likely to improve. Further, its valuation gap with the larger pipe makers had also widened significantly in the recent times (a 51% valuation gap currently as against the historic average of about 31%) but the same is also likely to narrow down. Particulars Multiple Target PE based EV/EBIDTA based Average 66.8 Assuming a substantial discount to the average multiple, we have valued MIL taking the average of 5x one-year forward PE multiple and 2x one-year forward EV/EBIDTA multiple. In our valuations, we have not considered the value of its real estate portfolio as the realty business is at a very nascent stage. However, we have valued the real estate projects of the group at Rs103.4 crore (considering the group s 58% stake in the projects) and if this value is included in our estimates the same could add about Rs19 to the sum-of-the-parts valuations. We recommend a Buy on the stock with a price target of Rs66. Historic one-year forward PE multiple x 10x 7x 4x Financials Profit & Loss statement Rs (cr) Net sales 1, , , , ,843.7 Operating expenses 1, , , , ,682.3 Operating profit Other income EBIDTA Depreciation Interest PBT Tax PAT Extraordinary Adjusted PAT Balance sheet Rs (cr) Share capital Reserves & surplus Shareholders fund Total debt Total liabilities Gross block Net fixed assets CW in progress Investments Current assets , ,089.8 Current liabilities Net Current Assets Misc. exp not w/o Deffered tax liability Total assets Valuations EPS (Rs) PER (x) P/B (x) EV/EBIDTA (x) EV/Sales (x) M cap/sales (x) Key ratios OPM (%) EBIDTA (%) PAT (%) RoCE (%) RoNW (%) Debt equity (X) Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08 Apr-09 4 May 2009

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