Power Mech Projects' IPO review: A long term call

A sound business model, strong order book, increasing share of maintenance business provide comfort

Power Mech Projects, the power infrastructure services player, is planning to raise Rs 262-273 crore through its initial public offering (IPO). The proceeds from new equity to be issued (issue also has an offer for sale portion) will be used for funding working capital requirements and general corporate purposes.

The company has a track record of installing testing and commissioning of boiler turbines and generators and balance of plant works at power units. This involves installation work, civil construction and operations and maintenance (O&M) activities. The company has an established relationship with various engineering procurement and construction companies and power utilities. It has also developed a significant equipment base, including material handling equipment.

With the government's increasing focus on clearing bottlenecks in the power sector, opportunities for service providers are growing. Analysts at Reliance Institutional Equities expect annual maintenance contracts to grow significantly due to a rise in installed base of IPPs (Independent Power Producers) in recent years. The maintenance segment portion in the order book has grown from six per cent in FY12 to 16.5 per cent at the FY15-end and close to 20 per cent now.

The company’s order book at the end of FY15 stood at an impressive Rs 3,406 crore. Of this, a majority (67 per cent) is from erection works, while about 15 per cent is civil construction and remainder is operation and maintenance. The company has recently secured another order worth about Rs 428 crore from Vedanta for its Jharsuguda (Odisha) project taking its order book close to Rs 4,000 crore. What’s positive is size of the O&M segment order book, which is growing rapidly. The maintenance segments typically has about 20 per cent margins almost double that from the erection segment, while margins in civil construction are a tad lower than those in the construction segment. With growth in maintenance segment orders, the margins of the company can move up. Analysts expect the margins to improve to 15 per cent levels in a year’s time compared to 12.6-13.5 per cent since in the past three years.

The company’s revenues and profits have grown at a 29 per cent and 17.38 per cent, respectively, at an annual basis during the FY11-15 period.

Return ratios, especially on equity, has seen some decline from 23-24 per cent in FY13 and FY14 to about 20 per cent in FY15. However, the expected release of retention money with clients is likely to lead to improvement in the return ratios and translate to better return on capital employed (RoCE) for FY16.

Overall, the company is well-placed to reap benefits of the increasing opportunities in the power sector and allied industries. Its current order book provides confidence and the same is likely to grow. Besides having executed projects in West Asia, North Africa, South Asia and South America, the company is identifying more overseas opportunities.

At the price band of Rs 615-640, the issue is priced at 12.7x and 13.2x its FY15 diluted earnings per share. Analysts at Reliance Institutional Equity research say Power Mech is valued at 10.3/10.7x FY17E earnings, which they feel is reasonably valued given its dominant position in the power EPC business. With a strong outstanding order book coupled with execution capabilities, Power Mech will continue to deliver high profitability and healthy returns over the next few years.

Sandeep Upadhyay, MD & CEO, Centrum Infrastructure Advisory, feels that once the power sector picks up over the next three to four quarters, there will be spurt in investments and companies like Power Mech will benefit immensely.

Hence investors with a horizon of at least a year can subscribe.