Multi Commodity Exchange of India IPO Analysis

Multi Commodity Exchange of India (MCX) started its operations in November 2003 as an online commodity futures exchange. It provides nationwide online trading, clearing and settlement operations of commodities future transactions. The transaction fees paid by members for execution of trades are the primary source of income for MCX.

As on December 2011, the company offered trading in 49 commodity futures, based on contract specifications from a diverse range of classes including bullion, ferrous and non ferrous metals, energy and agriculture. As on December 2011, MCX had 2,153 members on exchange platform with over 2,96,000 terminals spread over 1,572 cities and towns in India.



MCX is the fifth largest commodity futures exchange globally. Some of its commodity trading is in fact among the largest worldwide. On June 2011, MCX was the largest silver exchange, second largest gold, copper and natural gas exchange and the third largest crude oil exchange in terms of number of commodity futures contracts traded for each commodity for this period.

MCX's operations are supported by the infrastructure and software of Financial Technologies India (FTIL), the promoter company of MCX.

MCX is entering the IPO market to provide an exit option and liquidity to its existing shareholders. Seven of the existing shareholders of MCX, namely the Promoters Financial Technologies (FTIL), Bank of Baroda, State Bank of India, Corporation bank, GLG Financials fund, Alexandra Mauritius Ltd, and ICICI Lombard General Insurance, will be selling a total of 64.3 lakh shares. Of these, FTIL, Bank of Baroda, SBI, and Corporation Bank had subscribed the shares at par, while GLG, AML and ICICI Lombard had subscribed at around Rs 840 per share of face value of Rs 10 each (after adjusting for bonus issue of 1:4 in March 2011) in 2007-08. Post IPO, FTIL will hold 26% equity share capital in MCX, which is the maximum holding of promoter in a listed stock exchange, as per regulation.

Strengths

It is dominant player in commodity exchanges in India. Total value of commodity futures contracts traded on MCX stood at Rs 119806.89 billion and Rs 98415.03 billion for the 9 months ending December 2011 and FY 2011, representing 87% and 82%, respectively, of the total Indian commodity futures industry in terms of value of commodity futures contracts traded.

MCX has strong R&D and is pioneer in introducing various commodity contracts like iron ore, steel and several others including carbon credits. It provides so much liquidity to its members that even though competitors charge half of what MCX charges, they are not able to grab market share and volumes. Thus, MCX's ability to introduce new products for trading and providing liquidity for the same can generate higher revenues for the company compared with peers.

Traditionally, MCX has declared about 15% of its profit as dividends. MCX is a debt-free company and there are no capex requirements. MCX has cash equivalents of around Rs 700 crore in books of accounts. It is expected that dividend payout will increase in future in line with the trend among its international peers.

MCX currently executes commodity futures contracts and is waiting for FCRA (Forward Contract Regulation Amendment) Bill to be passed by Parliament. Subsequently, it can also start options trading in commodity markets. Worldwide, options trading in commodity markets are very large. So if permissions are granted, the volumes in commodity trading business will increase tremendously. MCX being the largest player in commodity trading will be the biggest beneficiary.

Weaknesses

Income of MCX is highly dependent upon trading volumes. Trading volumes depend upon volatility in prices and speculation plays a major role in volatility. Any reduction in volatility in prices or any regulation/prohibitions can result in reduction in volumes and, thus, income for MCX. Particularly, any change in regulations in top 4 commodities traded on exchanges, namely gold, silver, crude oil and copper, which account for namely 38%, 28%, 16% and 9%, respectively, of total futures contract by value, can significantly affect the business of MCX. Moreover, trading volumes in various commodities can fluctuate every quarter depending on various domestic and global factors.

India currently does not allow trading in commodity options nor can FIIs, mutual funds and banks trade in Indian commodity futures market.

MCX SX is a stock exchange promoted by MCX and FTIL for operating in the currency derivative segment. Due to litigation with SEBI, the exchange currently is non-operational and investment of Rs 68.85 crore of MCX in MCX SX is lying idle.

Commodity Transaction Tax on transactions in commodities can be imposed in future, which can result in reduction in transaction volumes for MCX.

Valuation

On standalone basis, from FY 2007 to FY 2011, MCX has grown its income from operations at 22% CAGR and PBT before EO at 18% CAGR.

On consolidated basis, the income from operations has grown by 28% to Rs 368.89 crore for FY 2011 on year on year basis. The OP margin stood at 52% against 49.3% resulting in OP growth of 35% to Rs 191.76 crore year on year. PBT before EO grew by 32% to Rs 245.75 crore. There was EO income of Rs 136.91 crore in FY 2010 as compared to nil for FY 2011. Hence PAT after EO for FY 2011 stood at Rs 176.30 crore, down by 20% compared to Rs 220.83 crore for FY 2010.

With average daily turnover for the first nine months ending December 2011 higher by nearly 60% compared to average daily turnover of FY 2011, MCX's nine-month income from operations stood at Rs 402.33 crore, already crossing the FY 2011 income from operations. MCX has significant fixed and semi-fixed costs and any increase in transaction income will result in jump in margins and, thus, bottom line. Hence, OPM in nine months stood at 64.8% and net profit was Rs 217.96 crore. Consolidated nine months annualized EPS works out to Rs 57.

At the upper price band of Rs 1032, P/E works out to18.1 times nine-months annualized consolidated EPS and at the lower price band of Rs 860, P/E stands at 15.1 times. The scrip will be listed only on the BSE and not on the NSE.

Globally, in developed markets, where the growth rate is in single digits and margins around 60%, the exchanges are trading at around 18 times calendar year forward earnings. In developing markets like Singapore, Malaysia, where growth rates are in mid teens and margins around 60%, exchanges are trading around 24-25 times calendar year earnings.

via CM