National fittings Ltd - Growth?

[akash_1cr]

Hi,

We are analyzing National Fittings and have it to be doing good on operational, financial and historical growth parameters

1. Operating efficiency:

Here we see that the operating cash flow from last 5 years is able to easily meet the working capital requirements. Hence, the company has been able to manage its sales, receivables and payables from internal cash flows. Also, interest component can be written off from CFO by debt prepayment (almost equal).

2. Financial health:

Inetrest/Operating profit and Interest/CFO - company has sufficient debt coverage which gives it room for aggressive sales, aggressive WC management and growth. D/E is 0.12 whereas promoter holding is close to 65%. So, promoters still have option to dilute equity if required without losing control. However, it is not required since CFO is generating enough cash to meet growth.

3. Historical growth:

Sales growth rate 10 years - 24%; 5 years - 14%
PAT growth rate 10 years - 46%; 5 years - 21%

PAT growth rate can be more than sales growth rate given that company doesnt have significant interest expenses, no new Capex which would lead to depreciation. Hence, incremental sales will lead to higher operating leverage.

Now, all this looks fine, but before investing, we have the following queries/concerns:

1. It has only 1 unit which is split across Dindigul and Kaniyur. Concern is how much incremental sales could be achieved from this unit? Additional setup of units would require close to 7 crore excluding land which if materialized would hit EPS in short to mid term.
2. Is the management competent to double sales from here. It looks like it is still a completely family run business with the promoter being 73 years of age. Annual report gives just a new director’s name but not sufficient information on her role and responsibility. (she is marked as being more of an operational person rather than sales person)
3. Which are the key competitors with whom National Fittings would have to fight out for growth?

Disclosure: Not invested.

Regards,
Akash & Nikhil

[chiragjain1976]

@akash_1cr

It would be better if you explain the business and sector of the company, opportunities, scalability etc in the first note.

[akash_1cr]

Thanks @chiragjain1976 for highlighting this.

Regarding scale, we see that they have products being exported and being consumed in India as well. Only a few companies come to mind when we look at their products but they are unlisted ones. So, scalability is something which we are also trying to find answers for.

May be we can get some more insights from the forum.

Regards,
Akash & Nikhil

[Gaurav_Agarwal]

Related party transactions need a closer.

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Looks like the company has given loan to private companies of promoters to supply raw material to the company.

Also, need to look at the remunerations of the promoters.

[brijeshmahawar]

Have a look at this detailed note on National Fittings and discussion in Q&A.

An enquiry into National Fittings

Disc: Not Invested.

[mvunsharma]

I am a metallurgical engineer and I know a little bit about foundries. Foundries are capital intensive units - they have no control on the input costs (raw material - which is either sponge iron or scrap) and electricity. They are poor purchasers. There is a high rejection rate that is inherent in the process. So, the yield is very less. Apart from this, there are too many choices for the customers - foundries with machining capacity are the ones that fare better.

An analogy can be Bharat Forge. Bharat Forge supplies machines forgings (as compared to raw forgings). They add value and the customers love it.

So, just check whether National Fittings has machining capacity. Do not buy this stock if they are just supply raw castings.

[goyal_nike]

Yes, we have also looked into whether they are just foundry or have machining facilities. We found that there are two manufacturing units, and one of them is the finishing unit.

We believe that it is the machining unit, and provide value add to the customers. They have also come up with new products (less than 2" pipe fittings) in recent times.

However, thanks for highlighting this, we will try to check this, whether the finishing unit is focused towards machining or it is not what we think it is.

Akash & Nikhil

[rohitbalakrish_]

Thanks @akash_1cr for bringing a thread for this company. I have worked on this company and am also invested. They manufacture grooved fittings which is a substitute for Welding. Welding is time & labour intensive and as a result is not preferred a lot in the western countries.

The primariy driver for grooved fittings is the contstruction industry as it is used in MEP, civil works etc.

Globally grooved fittings is largely dominated by a company called Victaulic- they invented this class of product. You can find more about the product benefits here

Other players include - Tyco, Grinnel, Rapidrop.

National Fittings is an established player in the M.E market and is India’s only manufacturer of grooved fittings. It is much cheaper than Victaulic due to its low cost benefit in India. Quality is not bad too.

Prior to 2010 NF was largely a SS business, post 2010, they ventured into this product and from there the growth started to come,

Middle Eastern region over the last 4-5 years has seen a construction boom, and with global events such as FIFA, Dubai Expo etc happening this should continue.

The India market, though small is growing. Victaulic is the largest player here, but increasingly NF is making in-roads. Margins however are much better in exports business.

As per my conversation with competitors and MEP consultants in M.E NF’s products are well accepted and are there is a waiting time to get their products.

NF has largely been affected due to the poor power problem in TN, which has stopped them from utilizing their full capacity (Currently @ 40-50% utilization) . As per some news articles TN power supply situation is improving and if it does improve, there could a lot of growth in the company.

Inviting views of others.

[goyal_nike]

@rohitbalakrish_

Middle Eastern region over the last 4-5 years has seen a construction boom, and with global events such as FIFA, Dubai Expo etc happening this should continue.

I have a contra view on demand in middle east. My understanding is that the whole construction busniess in middle east is largely driven by crude revenues. Though we dont see a glut of supply, but the way crude has crashed and can continue to stay where it is, then it hits the revenue of the state which in turn puts a comma on all construction activities. As of now, there have been no cancellations or delays, but with shrinking cash reserves which UAE, Quwait and Saudi Arabia had, I am not sure whether they would like to continue on same pace in construction industry.

Is there an alternate industry for the products to be utilized - suppose we consider no further growth happens in construction. Which other industry does Victaulic sell - may be this can give a pointer.

[rohitbalakrish_]

@goyal_nike

derstanding is that the whole construction busniess in middle east is largely driven by crude revenues. Though we dont see a glut of supply, but the way crude has crashed and can continue to stay where it is, then it hits the revenue of the state which in turn puts a comma on all construction activities. As of now, there have been no cancellations or delays, but with shrinking cash reserves which UAE, Quwait and Saudi Arabia had, I am not sure whether they would like to continue on same pace in construction industry.

As per my understanding the industry hasn’t slowed down yet. As far as I know it is largley used in construction work- MEP/Civil/Fire fighting equipments etc.

[goyal_nike]

Understandable.

Our hypothesis is majorly on decreasing state revenues (because of oil prices), but, as we are reading in the report shared by @brijeshmahawar, there is investment planned for the next 2-3 years, which is also our investment horizon, so this should be ok.

Pessimistically, we will develop one scenario on standstill growth in the ME market, and see how it is positioned.

Thanks @brijeshmahawar for the excellent report

[goyal_nike]

@Gaurav_Agarwal Thanks Gaurav for highlighting this.

We deep dived into the related party transactions, and found following. Except for one, Merit and National have common director.

The compensation is low for National Fittings, however, they are not so low for Merit Industries.

Other point is, Merit Industries sell National fitting product in India, and most of the transactions involve buying back of unsold goods in Indian markets.

Going further, if the compensation/transactions increases without any growth in business, then its an issue, otherwise in the presence of dividends, we dont find it as an issue right now.

[Gaurav_Agarwal]

I disagree with you when you say - “we dont find it as an issue right now”. The facts point to more than that

The fact is listed identity has given loan to the private company owned by the promoters to supply goods to the listed company. Also, we dont know if promoter’s company have employee or offices or they are utilizing the services of employee of listed company to simply make profits for themselves.

The disclosure in the annual report says - Contracts for the purchase of rough iron castings. What are rough iron castings are they finished products or the raw material?

According to my opinion promoters cannot be trusted and therefore risk to investment are very high and there is no margin of safety in this investment.

[akash_1cr]

Hi,

We have again gone into the details of related party transactions and have created a hypothesis which looks true unless we find an evidence against it.
All the related party transacitons would eventually result in one or more of the below scenarios:

We would like to invite comments/inputs to this table to expand & refine it further.

So, the only 2 places where we find a possible concern of related party transaction are:

1. Loans and advances at below market rates - NatFit has given advances of Rs 1.5 cr (FY 15) to Interfit India for raw material, and this was the first time (of significant value) in last 5 years it had done so. For Merit Industries, the amount was Rs 1 cr which again happened for first time (of significant value) in last 5 years. Additionally, Merit Industries looks like a trading business which is into sales and nationwide distributor network of industrial products. So, having a common directorship with Merit Industries looks like a good business decision where Natfit is trying to grow domestic sales. Rather than setting up own network and channel, why not use already made by someone else. But, since this happened for 1st time, we need to keep a check on this transaction in future and raise a red flag if it grows in size repeatedly.

2. Natfit is paying a rent of Rs 50 lakhs to Interfit India ltd annually. This surely looks a concern and needs to be thought through. Our hypothesis here is that first of all the promoters wont be interested in just shaving off Rs 50 lakh. Is it a real amount of money given the size of business? Secondly, let’s take a look at the common directorship structure of Interfit and National Fittings.

Except for Muthusamy Longanathan, there is no other director on board in Natfit from Interfit. Looks more like a story, but this could be true –

Interfit floated in 1981. Goes on doing casting, valve business. Then comes a scene where they are unable to grow the business and comes in Mr A V Palaniswamy (AVP) with his experience - “A qualified engineer with more than 40 years of experience in manufacturing technologies, expertise in achieving
best production and marketing levels.” Now, AVP brings in with him tech knowhow and skills and in turn gets a seat on board (9.56%) of Interfit to drive business his way. In return Interfit gets to lease out buildings for rent, supply raw material (since they already had control and access to raw material) and dividends. Keeps both the parties happy as AVP is able to run it as own business and Interfit is able to make money out of its assets. They start sellling in International market, but also want to grow in domestic sales. So, they float a new company Merit Industries which has Interfit promoter on board, AVP on board and a Mr Parikh who owns a sales and distribution netwrok. Now, sales would be being led by Parikh’s network with visibility to AVP and Interfit board.

Hence, if you look at National Fittings as an independent business, they are paying Rs 50 lakhs to get factory and land space and a board seat where AVP can run this business.

So, to summarize, (a) we need to keep a check on this transaction of Rs 2.7 cr in future and raise a red flag if it grows in size repeatedly (b) If we take that Rs 66 (50+16) lakhs goes into salary of Interfit directors against a PAT of Rs 5.5 cr of National Fittings which is still justifiable.

[mahesh112]

Any input on management and promoters credibility?

[akash_1cr]

Hi @mahesh112,

There isnt much information in public records on the management credibility - but looking at their compensation it looks very much in line with profits.

Also, though family is involved in the business, they have a non-family member rising up to a key management position. Searched on net, but didn’t find any cases in IT, legal or any other issues.

Had called office and was told that I can call in new year and speak to management. Will share the notes here once I get to speak and understand better.

Regards,
Akash & Nikhil

[Gaurav152]

Hi Akash & Nikhil.

Have you guys got an opportunity to speak with the Management?

[akash_1cr]

Hi Gaurav,

The management didnt reply to mail. Calls being not answered or kept on
continous hold being another challenge.

Regards,
Akash

[avneesh]

Recently Dr. Vijay Malik analyzed this company and discovered some management issues.

Analysis: National Fittings Limited

[distilled_feni]

Descent results

http://corporates.bseindia.com/xml-data/corpfiling/AttachLive/2285f381-1944-40e6-9b43-801a083ed58c.pdf

employee cost QoQ has almost doubled.

disc: invested