M and B Switchgears IPO Analysis

M and B Switchgears (MBSL), promoted by Shyam Sunder Mundra, Vikalp Mundra and Anurag Mundra, is engaged in manufacture of transformers upto 25 MVA capacity at 132 KV class and automatic voltage controllers. The company plans to diversify into solar power generation by setting up a 2 MWp grid connected solar power project in Madhya Pradesh.

Currently the product portfolio of the company comprise transformers for varied applications such as Power & distribution transformers, Rectifier Transformers, Furnace Duty Transformers [Arc Furnace & Induction Furnace], Dry type transformers, automatic voltage regulators, converter duty transformers, Fire Proof transformers and Special purpose transformers.

The company's transformer plant is in Indore, Madhya Pradesh. Currently the annual production capacity of transformers in terms of KVA is 900000 KVA per annum (or 75,000 KVA per month) on single shift basis. The transformer business of the company accounted for 72.14%, 65.47%, 94.91%, 88.10% and 90.05% of its total sales revenue for the last five fiscals 2007, 2008, 2009, 2010 and 2011 respectively.

The 2 MWp Solar power project of the company is based on PV Cells technology and is coming up at Rajghar District of Madhya Pradesh which has a solar radiation of 5.8-5.5 Kwh/sqm/day which is ideal for solar power generation. The company has roped in Tata BP Solar India as its turnkey contractor for commissioning of its solar power project. This project funded through internal accruals and a term loan from banks is expected to commence power generation by August/September 2011.

In addition the company is planning to set up additional 4 MWp solar power project. On commencing operation this 4 MWp solar power project is expected to generate 6.656 million units of power at 19% plant load factor (PLF). The company proposes to assign the execution job excluding the land development, civil works and evacuation infrastructure to TATA BP Solar. The company has already spent Rs 37.43 crore on acquisition of land and advance for plant and machinery largely funded by unsecured inter corporate deposits. The project is expected to commence supply of power by March 2012.

The company proposes to raise Rs 90-93 crore from the IPO, of which about Rs 71.36 crore will be used to fund its 4MWp solar power project at Rajghar District of Madhya Pradesh and balance for general corporate purposes. The company has taken a bridge loan by way of unsecured corporate deposit from third parties to fund the proposed 4 MWp solar power project and this will be repaid out of the proceeds of the issue.

Strengths

The promoters of the company are in the business of manufacturing transformers for more than 62 years and are preferred and regular suppliers of quality transformers to SEBs etc. Many of the clients of the company are renowned SEBs/Government controlled utility company/Public Sector Undertakings (PSU's). The company is not dependent on any one industry or sector as it cater to sectors like power, steel, textile, coal and mine, infrastructure, engineering and automobile, etc. and within each of these sectors it has diversity of clients.

Unlike other renewable sources such as wind, small/mine hydel etc the yearly variance in solar power is marginal and thus the cash flow variance will be lower.

Relatively low gestation period for solar power projects unlike other forms of power generation.

Weaknesses

The company's transformer business is small and lacks economies of scale. Moreover the lower KVA transformers typically command lower margin compared to higher KVA transformers due to highly fragmented and severe competition, given low technology barriers in this segment.

High working capital intensity of operations arising out of high debtor days resulting in negative fund flow from operations over the last two years. SEBs/state utilities account for about 54.6% of revenues in FY11 and about 35% of revenues in FY10. Given the precarious financial position of most state power distribution utilities, the working capital cycle may further get elongated affecting cash flows and profitability of the company.

Solar power project, being highly capital intensive, are not viable in the absence of subsidized feed-in tariffs or other financial incentives like revenue through sale of Renewable Energy Certificates (REC), CDM etc. The company is yet to get the registration for REC. Also, REC trading in India is at nascent stage. So, this brings lot of regulatory and market risks to potential REC revenues of the company. Moreover the technology for manufacturing solar photovoltaic cells is still evolving and therefore carries the risk of obsolescence.

CERC has prescribed a band of Rs 12000 to Rs 17000/- per REC. This wide price band may give volatility in Company's solar power revenue stream. However, the validity of the REC is only for a period of 365 days from the date of issue, hence the company may be obligated to sell the RECs at the lowest price of the price band or it may even not be able to sell its entitlement fully during its validity period. Further, the CERC has scaled down the REC price band for the period April 2012 to March 2017 to Rs 9300 to Rs 13400. This reduction in the REC prices which, comes into effect from April 2012 would effect the company's profit and there is no assurance that the price band would not be revised further to company's disadvantage.

The company is yet to sign power purchase/offtake agreement for both the 2 MWp power project, which is under execution and the proposed 4 MWp.

The promoter were directors/ promoters of companies i.e. Indore Transformers, C. S. Steels, Geeta Electricals Indore and Agartala Electricals LLP which are engaged in similar line of business of the company i.e. manufacture, repair and sale of transformers. Since the company has not yet entered into any non compete agreement with these firms, there can be conflict of interest.

Valuation

The company registered sales of Rs 34.49 crore for the fiscal ended March 2011, representing a fall of 4%. The net profit for the same period was down by 16% to Rs 77 lakh. The EPS works out to Re 0.4 on post-IPO equity. The price earning ratio at the offer price band of Rs 180-186 stands at 450-465!

The average cost of acquisition of Equity shares for the three promoters i.e. Shyamsunder Mundra, Vikalp Mundra and Anurag Mundra is Rs 2.18, Rs 4.07and Rs 7.74 respectively.

The well established transformer players such as Voltamp and Transformers & Rectifiers are available at a PE of 9.8 and 6.9 times respectively. Even the renewable energy player Orient Green Power quotes at a PE of 62.7 times its consolidated FY11 EPS.