IPO: Kronox Lab Sciences

Kronox Lab Sciences, a chemical manufacturer, will launch its IPO (initial public offering) on June 3, 2024. Below is a breakdown of the company's strengths, weaknesses, and growth prospects to help investors make an informed decision.

In a nutshell

• Quality : Kronox's three-year average ROE (return on equity) and ROCE (return on capital employed) are 35.8 and 49.1 per cent, respectively.
  
• Growth : Between FY21 and FY23, its revenue grew 23.7 per cent, while net profit contracted 30.8 per cent per annum.
  
• Valuation : The stock is valued at a P/E (price-to-earnings ratio) of 28.1 and a P/B (price-to-book ratio) of 8.4 times.
  
• Overview: The Indian chemical industry has grown rapidly since the pandemic began in FY20. The China +1 strategy, too, has created significant opportunities for the sector. Kronox stands to benefit from these developments. However, it faces stiff competition from numerous small and large companies vying for market share.

About Kronox Lab Sciences

Incorporated in 2008, Kronox Lab Sciences manufactures specialty chemicals and intermediates used across various industries. It sells its products in 20 countries. Pharma chemicals are the company's largest segment, accounting for 45 per cent of domestic revenue. Laboratory testing and food processing contribute 27 per cent and 24 per cent to the domestic business, respectively. Meanwhile, its export business contributed nearly 25 per cent to the overall revenue as of nine months ending December 2023.

Strengths of Kronox Lab Sciences

Client retention: Manufacturing niche specialty chemicals for clients requires a lengthy R&D (research and development) and audit process. This creates significant exit costs for clients. As a result, it becomes costly for them to switch suppliers, ensuring they stick with the company. Kronox maintains a sales record of over five years with almost one-third of its client base despite having no long-term contracts.

Weaknesses of Kronox Lab Sciences

• Heavy reliance on pharma and biotechnology industries: Over 70 per cent of Kronox's revenue was linked to the pharma and scientific research segments as of nine months ending December 2023. A slowdown in these industries can significantly impact the company's financial performance.
  
• Revenue concentration: Kronox caters to over 500 clients. However, its top 10 clients contribute nearly 45 per cent of total revenue. A walkout or reduced demand from even one key client can adversely affect the company's financials.

Risk report

Company and business

• Are Kronox's earnings before tax more than Rs 50 crore in the last 12 months?
  No. The company reported a profit before tax of Rs 18 crore as of 12 months ending December 2023.
  
• Will Kronox be able to scale up its business?
  Yes. Growth in the domestic pharmaceutical and biotech industry, along with the China +1 strategy, should help scale up the company's business in the future.
  
• Does Kronox have a recognisable brand recall with client stickiness?
  Yes. The top 10 clients have maintained an average working relationship of seven years with the company.
  
• Does the company have a credible moat?
  No. India's chemical industry is highly fragmented, with multiple large players operating in similar products.

Management

• Do any of the company's founders still hold at least a 5 per cent stake? Or do promoters hold over 25 per cent stake in the company?
  Yes. Post IPO, the promoters will hold a stake of 74.2 per cent.
  
• Do the top three managers have over 15 years of combined leadership at Kronox?
  Yes. The current managing director has held the position since the company's incorporation in 2008.
  
• Is the management trustworthy? Is it transparent in its disclosures, which are consistent with SEBI guidelines?
  Yes. No information suggests otherwise.
  
• Is the company's accounting policy stable?
  Yes. No information suggests otherwise.
  
• Is Kronox free of promoter pledging of shares?
  Yes. Promoters have not pledged any shares.

Financials

• Did the company generate a current and three-year average ROE of more than 15 per cent and a ROCE of more than 18 per cent?
  Yes. Kronox's three-year average ROE and ROCE are 35.8 and 49.1 per cent, respectively. In FY23, they were 37.2 and 49.9 per cent, respectively.
  
• Was the company's operating cash flow positive during the last three years?
  Yes. The company's operating cash flows were positive between FY21 and FY23.
  
• Is the company's net debt-to-equity ratio less than one?
  Yes. Kronox has zero debt on its balance sheet.
  
• Is Kronox free from reliance on huge working capital for day-to-day affairs?
  Yes. The company is free from huge working capital requirements.
  
• Can the company run its business without relying on external funding in the next three years?
  No. Although the company is debt-free, its cash and cash equivalents on the balance sheet are small, and it will not receive any proceeds from the IPO. Hence, any major capex may require the company to raise capital.
  
• Is Kronox free from meaningful contingent liabilities?
  Yes. The company reported no contingent liabilities as of December 2023.

Valuations

• Does the stock offer an operating earnings yield of more than 8 per cent on its enterprise value?
  No. The stock offers an operating earnings yield of 3.6 per cent on its enterprise value.
  
• Is the stock's price-to-earnings less than its peers' median level?
  Yes. The stock is valued at a P/E of 28.1 times compared to its peers' median level of 63.9 times.
  
• Is the stock's price-to-book value less than its peers' average level?
  No. The stock is valued at a P/B of 8.4 times compared to its peers' average level of 5.1 times.

Disclaimer: This is not a stock recommendation. Do your due diligence before investing.

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