Titagarh Wagons IPO Analysis

Investments with a two-three year perspective can be considered in the initial public offering of Titagarh Wagons (TWL). Our optimism stems from the opening up of business opportunities in the rail sector by way of setting up of dedicated freight corridors, participation of private players in rail logistics and the introduction of the wagon leasing scheme.

Titagarh Wagons appears well placed to ride this growing demand for wagons, given its established relationship with the Indian Railways (IR). At the price band of Rs 540-610, the stock is valued at about 15-17 times its likely FY-09 per share earnings on a diluted equity base. This is at a marginal discount to Texmaco, which trades at about 17 times its likely FY-09 per share earnings. This discount is justified as Texmaco commands a higher share in wagon supplies and has a more diversified business mix. Growth prospects notwithstanding, we would be more comfortable if the offer were priced at the lower end of the price band.
Railways, demand booster

The demand for wagons is set to increase given the Railways’ renewed focus on increasing its share of freight traffic. This is reflected in the latest Rail Budget, which aims to procure an all-time high of about 20,000 wagons for the coming year. While railway orders are generally procured only through an open tendering process, TWL’s already established relationship with the Railways and the expansion and de-bottlenecking of present capacities may lend it greater credence. Besides, TWL’s proposed entry into EMU (electric multiple unit) may also expand its potential market. It plans to invest about Rs 19 crore to set up the EMU unit, which will have the capacity to manufacture two rakes (nine EMU coaches) per month.

Revenue contribution from the Railways, one of TWL’s largest customers, has reduced over the years, despite an increase in the supply of wagons. This is because the Railways typically provides a bulk of raw materials as ‘free supply’ items to wagon manufacturers.

While this may dwarf the Railways’ contribution to wagon manufacturers’ revenue pie, Railway orders yield higher margin and provide greater flexibility in working-capital management. With a likely ramp up in Railway orders in TWL’s books, the latter may enjoy greater operational freedom.
Private participation

Entry of 14 new private players in container rail logistics is also likely to keep the demand for wagons strong. Since these players are required to invest in their own wagons, the introduction of wagon leasing policy and investment scheme offers support.

The wagon investment scheme provides a 10 per cent rebate on normal freight charges to wagon owners and a guaranteed supply of rakes every month. The wagon-leasing scheme, on the contrary, allows third-parties to invest in wagons and lease them. These schemes, introduced to attract more private participation, may help keep the order books of domestic wagon manufacturers buoyant.
Strategic sourcing of components

TWL’s proposal to set up an axle machining and wheel set assembling plant appears strategic, given the supply constraints of domestic railways-approved wheel set manufacturers. With an investment of about Rs 13 crore, TWL plans to set up a unit to assemble wheel sets through procurement of loose machined-wheels and axles from global suppliers. This unit, which will have the capacity to assemble over 10,000-12,000 wheel sets annually, will give TWL better control over its cost and greater operational continuity.
Financials

TWL witnessed a compounded earnings growth of about 74 per cent during the last four years on the back of 57 per cent growth in revenues. Operating margins have also expanded from over 10 per cent in FY-03 to the current levels of about 17 per cent. Its order-book of about Rs 750 crore, with Rs 670 crore for the rolling stock division, also reflects the strengthening demand scenario.

However, since IR fixes the price of wagons on the basis of the lowest bid (L1) it receives, there is little scope for a drastic improvement in TWL’s realisations. This may be compensated by way of expansion in margins, considering the likely ramp up in IR orders and its backward integration initiatives.

Going forward, we expect the bulk of revenue growth to come from TWL’s wagon manufacturing division only. While its casting division may help on the margin front, the HEMM (heavy earth moving and mining equipment) division may take a couple of years to make significant earnings contribution.
Offer details

The offer is open from March 24-27. Kotak Investment Banking is the book running lead manager. The company plans to raise about Rs 126 crore through a combination of fresh issue of shares and offer for sale by the promoters.