Commercial Engineers & Body Builders Company IPO Analysis

Commercial Engineers & Body Builders Company (CEBBCO), promoted by Kailash Gupta and Ajay Gupta, manufactures vehicle bodies for commercial vehicles (CVs), refurbishment of wagons and manufacture of locomotive and wagon components.



The company is one of the leading designers and manufacturers in India of vehicle bodies for CVs for original equipment manufacturers (OEMs) producing fully built vehicles (FBVs). The company has wide range of CV offerings. Vehicle bodies designed and manufactured by the company cater to a variety of requirements in different industries and sectors.

In late 2008, the company also forayed into refurbishment of wagons as well as manufacturing components for wagons, coaches and locomotives in the railways division. Its clients are various production units, zonal workshops of Indian Railways. The company undertakes refurbishment and manufacture of sidewalls and end-walls of railway wagons and manufactures long hood structures for locomotives.

It has received approval from the RDSO (a unit of the Ministry of Railways in charge of maintaining standards for rolling stock and approving vendors to the Indian Railways) for the company's quality assurance plan (QAP) to fabricate sidewalls, end-walls and flap doors of BOXNR wagons. This approval is a pre-requisite for companies to be eligible to supply sidewalls and end-walls for BOXNR wagons under the BOXNR guidelines.

Further, the manufacturing facilities of the company have been certified by the Integral Coach Factory (ICF), a production unit of the Indian Railways, to be adequate for supply of sidewalls, roof assemblies and car line pillars for LHB coaches (used by Rajdhani trains). It has also been included in the approved vendor list of ICF for the supply of LHB design sidewalls, roof & stainless steel shell construction. It recently bid for a tender from the ICF for supply and installation of cattle guards for EMUs, which has been accepted on development basis. The company recently bid in the railway tender for manufacture, fabrication and supply of 10,739 new wagons.

Currently, the company operates five factories: four are in Madhya Pradesh (Richhai I and II, Mandla and Indore) and one is in Jamshedpur, Jharkhand. However, the Jamshedpur factory is operated as an unincorporated joint venture with another company, Mithila Motors, on account of which it has to share control and profit.

The company also intends to set up a new factory near Jabalpur in Madhya Pradesh with facilities to manufacture railway wagons and EMU Coaches (project). The project will be implemented in two phases and the total cost of the project is approximately Rs 130.31 crore. The factory will have a manufacturing capacity of 1,200 wagons and 150 EMU coaches. The first phase of the project is expected to commence commercial production in December 2010. Of the total capex, about Rs 50 crore will be funded through a loan from Axis Bank and the remainder will be financed from internal accruals and net proceeds from a fresh issue.

Apart from bodybuilding and railway wagon refurbishment and component manufacturing, the company in the past has executed steel fabrication job works on an ad-hoc basis from time to time, which has occasionally contributed significantly to its bottom line. However, such work is not part of its regular business activities and, therefore, it may not continue this work in the future.

The proceeds from fresh issue of shares will be used to fund capex for the railway project of Rs 80.31 crore and prepayment of identified loan facilites of Rs 59.05 crore.

Strengths

The company has long-standing relationships with OEMs such as Tata Motors for their Indian market operation as well as exports markets. It has also received orders for manufacturing different vehicle bodies in the CV division from OEMs such as VE Commercial Vehicles (a joint venture between the Volvo group and Eicher Motors), Ashok Leyland, Asia MotorWorks, Man Force Trucks and Hino Motors Sales India (belonging to the Toyota group of companies), all of which also manufacture FBVs. Apart from OEMs, the company's clientele include the Ministry of Defense as well as corporate groups who have significant private fleets of vehicles such as Reliance Petroleum, Reliance Industries and Som-Datt Builders. Given its strong realationship with CV OEMs, the company is all likely to piggyback the current cyclical upturn in the CV industry.

The order book of the CV division as of July 15, 2010 was Rs 525.54 crore and that of the railways division was Rs 98.16 crore. The aggregate order book is 3.4 times its trailing fiscal sales. In the CV division, the company has in the past experienced cases where the actual number of chassis furnished by customers on which it has to build the vehicle body has been less than anticipated at the time of placement of order, so that the actual number of vehicle bodies procured by the customer has been lower than the quantity originally ordered. Also, some of the customers in this division place orders stating that the quantities are merely indicative and the orders may be cancelled at any time. In the railways division, several orders placed are subject to the condition that the quantities to be supplied may be varied unilaterally by the customer by up to 30%.

Weaknesses

The company's fortune relies heavily on one single entity, i.e., Tata Motors. Tata Motors accounts about 52.46% of the net revenue of the company in FY 2010. This is despite the company trying to diversify its revenue mix. Similarly, Indian Railways accounted for 27.5% of the net revenue of the company for FY 2010. Moreover, the CV industry is inherently cyclical in nature and any downswings in CV industry can have adverse impact on OEMs and that will naturally have a cascading effect on the company.

The company's competitive position in the tipper and trailer segment is weak compared to its competitors. Hyva (India), the company's main competitor in tipper bodybuilding, is a renowned player in hydraulic jacks globally. Hydraulic jack is a key component in tipper bodybuilding and the company sources the item from Hyva (India) and Wipro. Similarly TRF, a tata group company, has acquired Dutch Lanka Trailers, one of the competitors for the company in the trailer segment, in July 2009. If Tata Motors gives preference to its group entity over others, then the company will be at a disadvantage, especially in difficult times when the entire pie will be small.

Corporate governance track record of the promoters is not sound. Trading on shares of Kailash Auto Finance, which is a group company and where the promoters of CEBBCO are directors, was suspended by BSE for a brief period on account of non-compliance of listing agreement. Subsequently, the suspension has been revoked, with the company regularising the non-compliances. The promoters agreed to sell their entire stake in Kailash Auto Finance to Padma Impex on May 18, 2010.

The company & promoters have limited experience in the Railways industry, for which a substantial portion of the net proceeds of the fresh issue will be deployed.

Vehicle bodybuilding for the CV industry is largely dominated by the unorganised sector. Majority of the business of some of major OEM customers is in the form of sale of chassis rather than fully built vehicles to dealers. End-users of these chassis obtain vehicle bodies from garage owners in the unorganised sector rather than from manufacturers in the organized sector such as CEBBCO.

Existing shareholders, NYLIM and certain promoter group entities, i.e., the Jashn Beneficiary Trust through its trustees and Commercial Automobiles, sold part of their respective equity shares held in the company on July 9, 2010, at a price of Rs. 116.56 each to Tata Trustee, which is lower than the current offer price. Moreover, promoter group entity Commercial Automobiles will also be encashing 243,486 shares by offering them for sale along with the current IPO.

Valuation

Sales for the fiscal ended March 2010 was higher by 63% to Rs 182.86 crore. Its net profit was Rs 19.20 crore compared to mere Rs 1.74 crore in the corresponding previous period. The standalone EPS for FY 2010 was Rs 3.7 on post-IPO equity. The PE at the offer price band of Rs 125-127 works out to 33.8-34.3 times.

Given the business mix of the company in CV body building and wagon refurbishement there is no comparable listed company with similar business mix. Established private railway wagon manufacturers such as Texmaco and Titagarh command a PE of 23.5 times and 14.6 times of their FY 2010 earnings. Even if we treat the company as auto ancillary the asking PE is very steep in relation to industry (i.e., auto ancilliary others) TTM PE of 12.37.