Hi Tech Pipe-Recent Expansion and Operating Leverage to Drive Earnings

Stock Opportunities Untested - but worth a good look
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Company Overview:
Hi Tech Pipes was incorporated in 1985 and is one of the leading steel processing company in India. The company has presence in steel pipes, hollow sections, tubes, cold rolled coils & strips, road crash barriers, solar mounting structure and a variety of other galvanized products. The company has three plants located in Sikandarabad, Sanand (Gujarat) and Hindupur (South) with the manufacturing capacity of 300,000 tonne per annum. The company has pan India presence with more than 200 distributors.

Current Capacity & Utilization:
• Two Manufacturing Plant in Sikandarabad with the total capacity of 1,80,000 TPA operating at 75%.
• Third Manufacturing plant in Sanand with the total installed capacity of 60,000. Out of this 30,000 tpa was commissioned in September 2016. The plant is running at more than 70% utilization since March 2017
• Fourth Manufacturing plant was commissioned in Hindpur, Bangalore in Jan 2017 and is running at more than 70% since March 2017.
• Optimum Utilization is ~80%

Revenue can grow at 35% CAGR led by foray into south and west market
Recently company has commissioned/stabilized the production at two new plants in South and West with the capacity of 60,000 MT each respectively. Both the plants are running at more than 70% utilization since March (optimum utilization of 80%). Demand dynamics in both the markets are good as a result of which company is able to sell full production. Based on this, company is expected to have sales volume of 225,000 MT (75% utilization of FY17 end capacity of 300,000), which would translate to the revenue of 820-840cr revenue in FY18 (YoY growth of 30%).
Further, company is in the process of doubling capacity at South and west plant with the marginal capex (due to brownfield expansion). Expansion in the West and south is expected to be completed by Oct 2017 and Feb 2018 respectively. Post expansion, capacity of both the plant would be 120,000 each and company’s total capacity would be 420,000 MT. Management is confident of achieving 75%-80% utilization on the capacity in FY19, which would translate into revenue of 1100-1150cr revenue in FY19 (35%-40% YoY growth).
So revenue is expected to increase to 1100-1150cr in FY19 as compared to ~640cr in FY17, at a CAGR of ~35%.

EBITDA can grow at 40% CAGR led by revenue growth and margin improvement
As per the company management, margins are expected to increase going forward on account of better realization in south market, Raw material cost saving (proximity to supplier) and economy of scale. This coupled with revenue growth is expected to help company in achieving EBITDA of 80cr+ as compared to 40cr EBITDA in FY17.

Profitability can grow manifold led by EBITDA growth and leverage
Interest outgo for the company is expected to remain flattish/increase marginally on account of 1) Major part of the Interest already got reflected in the income statement from H2FY17 onwards 2) Interest cost is expected to reduce by 1% due to reclassification of debt in State bank of India books instead of State Bank of Patiala 3) Debt of only 10-15cr for the 2nd phase of expansion. Further depreciation should also remain flattish going forward. This coupled with ~40% growth in EBITDA can help company in posting profit of atleast 20cr and 35cr in FY18 and FY19 respectively as compated to profit of ~10cr in FY17.

ROE to improve on account of increased utilization, margin improvement and operating leverage

Valuation:
On a Trailing Basis, the stock is trading at PE of ~15x vs APL Apollo tube PE of ~26x vs Rama Steel Tube PE of ~27x. Even on EV/Sales basis, the stock is trading at EV/Sales multiple of 0.5x vs sector average on 1x.
On forward basis, the stock is trading at the PE of ~7x FY18E and 4x FY19E earnings as compared to sector forward PE of 15-20x.

Key Risk:
• Delay in expansion
• Economy Slowdown
• Low liquidity in the Stock due to NSE SME exchange

Disclosure: Invested

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i could find company. can you giv some more detail of bse or nse name/id?

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Hi,
Cash Flow generation has been weak for last 5 years. Would make it interesting if that were to improve over coming years.

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The company is listed in NSE Emerge segment. Given below is the link for same
https://www.nseindia.com/emerge/live_market/dynaContent/live_watch/get_quote_SME/GetSMEQuote.jsp?symbol=HITECH

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The company has been expanding in the last few years as a result of which cash flow generation was not there. I expect the same to improve from FY19 onwards.

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Minimum number of shares or lot size, any restrictions? or the number is like any other?

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Hi Ravi, Thanks for the write-up. I have a few questions:
You have mentioned-
i) Capacity utilization for Sikandrabad plants is 75%- Have you back-calculated this from the total capacity utilization? If yes, can you provide the break-up. If not, can you help me out with the source. Also if you can help me out with source for the capacity utilization numbers for the other two plants
ii) 30,000 TPA of the 60,000 TPA for the Sanand plant was commissioned in Sept- again if you can help me out with the source
iii) The Bangalore plant got commissioned in Jan’17, while company had come out with an announcement on 21st March’17 regarding commissioning of Bangalore plant. Do FY17 revenues account for it?
iv) optimum capacity utilization is ~80% - is this industry standard or something communicated by management?
v) Company is in the process of doubling the capacity utilization for the Sanand and Bangalore plants- again if you can help me out with the source. In the investor presentation, they have mentioned about expanding the capacities for the next two years, but have not mentioned the numbers. Also they have mentioned that the capacity for Gujarat plant has been expanded from 60,000 TPA to 85,000 TPA in FY16-17. Have they commissioned any part of it or is it only the installed capacity? As per the IPO prospectus (Feb '16), the Gujarat plant already had an installed capacity of 100,000 TPA.
vi) What are the margins for Solar business? Why did the company venture into Solar space which is intensely competitive?

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Few more observations Ravi

EBITDA of 80Cr+ looks quite ambitious…The major problem with the company historically has been poor margins. The growth has been there, but the raw material expenses have offset this growth to a great extent in the past 5 years. With Steel prices expected to pick up in the next two years, their margins would be hit further as steel is the major raw material.
The Bangalore plant would be more focused on the solar business.Currently even the established players are having a tough time in this space with margins taking a hit.Would be difficult for Hi-Tech

Interest expenses have been a bigger pain than the raw material expenses. With the interest and depreciation expenses expected to remain at-least same if not higher, profit of 20Cr looks quite far-fetched

Dupont analysis for ROE indicates the reason for increase in ROE has been the leverage multiplier with Asset turnover and PAT margins remaining almost flat.

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Hi Krupesh,

All the points mentioned by me in the notes are based on my meeting with the promotor.
EBITDA projections: Company should easily do 800-850cr sales in FY18 as new plants are already running at 70%+ level and company is able to sell full production (based on discussion with promotor)
i am expecting margins to be atleast 6.7% in FY18 as compared to 6.3% in FY17. This would result in EBITDA of around 60cr in FY18.
FY19 should also see similar growth due to upcoming capacity in south and west plant.
Reason for Margin Improvement: If you carefully analyse the margins for the last 3 years its on increasing trend and should continue to move upward due to followings:

  • Realisation in the South and west market is much better than north india as a result of which blended margins should be higher. I have checked the same from industry sources as well. You can refer to Rama Steel Tubes historical financials/margin improvement trajectory to validate the same. Rama steel tube margins improved significantly post forayed into south market

  • Raw Material for the north plant is being sourced from Orrisa as a result of which company have to incur higher logistic cost. Whereas RM in the south and west plant is sourced locallY and management expect huge cost saving on account of this.

  • Few overheads are fixed in nature as a result of which margins can improve on account of economy of scale

Management expects margins to be atleast 7-7.5% on account of the above points. I have assumed 7% margin in FY19 which should result of 80cr EBITDA

Net Profit in FY18- 60cr EBITDA and 30cr interest and depreciation would result in 30cr PBT, hence 20cr profit looks easy to achieve.

Note: I am positive on the company because new plants have stabilized and new markets are seeing good demand so sales growth is easy to achieve. Operating and financial leverage would help company in registering stunner numbers in FY18 and FY19.

Similar improvement in financials happened in APL Apollo Tube and Rama Steel Tube as well on account on similar triggers and i see same happening in Hi Tech Pipe Now.

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Hi Ravi, Thank you for the response.

My assumptions are more conservative here.
Going forward, increase in capacities for the existing two plants in Sanand and Bangalore would only increase the depreciation expense.
If i look at the interest expense for the past 5 years:

Roughly the interest expense has been around ~12.5% of the total borrowings. LT has shot up whenever a new plant has come. ST debt has been growing at a rate of 10%.(working capital and other stuff)
New capacity addition is 40% of the current capacity. Hence assuming LT debt to rise by 15-20Cr while ST debt to increase by 10%,total debt for FY19 comes to ~210-215Cr, 12.5% of which comes to ~27Cr.
Hence I would assume depreciation+interest expense for '19 to be ~36Cr.
Assuming a 7% EBITDA margin on 1100Cr gives PBT of ~40Cr. Taking historical tax rate of~34% gives PAT of ~26Cr for2019.

A word of caution here - I have been conservative in most of my assumptions other than sales (taken directly as per management). Probably some more research can be done here. Ravi, you have mentioned company is able to sell full production - what about the inventory then? Am i missing anything here?

Also rather than mentioning low liquidity as a risk, it is better to apply a liquidity discount while doing valuation (here - size of the firm - small, bid-ask spread - high , cash flows - poor, liquidity of the assets- not easily sellable…all these point to higher discount). Here the discount applied should be even higher because of the SME exchange(minimum lot size). At the end applying margin of safety. All this should easily discount the comparables by 10-15%.(however Indian markets are irrational and you never know when all these valuations can go for a toss)

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My take on Debt level:

Based on my discussion with the promoter, company has already incurred capex for 2nd phase of expansion (capex for second phase is just 25-30cr) and long term debt should not increase from FY17 end levels.

Business is obviously working capital intensive in nature as they have to maintain 10-15 days of inventory for each of the Raw Material, Work in Progress and finished goods.

However, Short term debt would increase post completion of 2nd phase of expansion only as working capital for the phase 1 is already there in books as on 31st march 2017. As per my projections Debt should be ~180cr by FY18 end vs 170cr as on 31st march 2017.

Interest Rate
Average interest cost for the company is around 12% in FY17. However, the same is expected to reduce to 10.5%-11% on account of 1) Earlier most of loan was with state bank of patiala and same has been transferred to State bank of india and rate has reduced after that 2) Further, they are negotiating for further reduction and hopeful of the same soon.

Depreciation wold also not increase much as capex for 2nd phase is ~25-30cr only.

I am expecting interest & Depreciation to be ~28cr in FY18 and 30cr in FY19.

Tax Rate for the company would be lower due to tax incentives in Southern Plant.

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What is the valuation - PE, P/S etc.? At least few of those ratios?

Without valuation check, how you compared with its peer?

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sir refer to the initiation thread… valuations have been mentioned.

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Nice pick Ravi.
Any idea if these guys host conference calls for us to participate. The data posted by you of course looks compelling.

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Can you elaborate on the compitative advantage for the business ?
Why do you think this business has moats ?
I feel anyone with cash can set a similar plant to produce very same products, Then why we are not considering this as a threat ?
Why do you think Company will be able to utilize new capacity at fullest ? Do you see demand reviving in future.

Just want to understand dynamics of pipes industry.

Also whats the ROCE of the business ?

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I see a message with the below:

Item No 3 - Issuance of 8,50,000 Fully Convertible Warrants on Preferential Basis to the persons belonging to Promoter, Promoter Group and Non Promoter Category

Item No 4. Issuance of 2,00,000 Equity Shares on Preferential Basis to the Persons Belonging To Promoter and Promoter Group Category

Could anyone elaborate the impact of this on the future performance of the company?

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Money will get infused into company at Rs.410/-…probably long term debt will be repaid…to make balance sheet a little less leveraged…

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OutcomeBM_01032018.pdf (275.9 KB)
Expecting a re-rating as Hi-Tech Pipes gets transferred to main exchanges because of the increase in liquidity & awareness and decrease in minimum investment required.

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Emerging Player in high-growth Steel Tubes Space

  1. Expanding capacity = 580K MTPA going to 1M MTPA by 2026. Plans in Sikandarabad 255K, Sanand 125K, Hindupur – 120K, Khopoli – 80K. SALES VOLUME increased by 21% Y-O-Y to 84,500 MT in Q1 FY24 vs. 70,000 MT in Q1FY23. Targeting the volume growth of almost 30%
    a. By end of this financial year, the company’s installed capacity will stand at 7.5 lakh tons. And we are eyeing 1 million tons in the next 1.5 years from FY '24. So you can say mid of FY '26, we will have 1 million tons.
  2. Revenue Mix = 65% from Steel Tubes and 33% from Flat Steel & Coated Products
    a. Increasing value added share = from >30% to 50% - Sales of the coated product (GP Coil, GC Sheets, Color Coated Coils, Color Profile Sheets) is picking up well. As on Q3 FY '23, our EBITDA per ton was in the range of INR3,000 per ton. And in Q4, it has risen to INR3,200 per ton. And with the addition of this colour coating line facility and the larger diameter pipe and other special SKUs and also the increase of galvanized products in the total basket, so this is further poised to grow from here. Our internal target is to take it up to INR4,000 per ton level, and we are working in that direction
  3. New Products = Entry into Large Dia segment upto 16 inches round pipes for Water, Infrastructure, Oil & Gas Segment. With addition of this facility, Company shall be able to enlarge its product basket from ½ to 16 inches. We are expecting to start the commercial production from Q3FY24 onwards
  4. Consistent Performance

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  1. Reducing WC Days

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  1. Backward integration = installation of cold rolling mill for backward integration at Hindupur plant. Hopeful to get it commissioned by the end of Q2 FY '24
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