This precision-engineering company is coming up with an offer for sale of Rs 1,283 crore through an IPO. Should you bid for its shares?
Incorporated in 1981, Sansera Engineering is a manufacturer of complex and critical precision-engineering components used across the automotive and non-automotive sectors. Within the automotive sector, the company manufactures connecting rod (39.6 per cent of FY21 revenue), rocker arm (19.5 per cent), crankshaft (17.2 per cent), gear shifter fork (6.6 per cent), stem comp (3.8 per cent) and aluminium forged parts, which are critical for the engine, transmission, suspension, braking, chassis and other systems of two-wheelers, passenger and commercial vehicles. In the non-automotive sector, the company manufactures a range of precision components for aerospace (3.8 per cent in FY21), off-road, agriculture and other segments, including engineering and capital goods. For FY21, the automotive sector contributed 88.45 per cent to the total revenues, while the non-automotive sector contributed 11.55 per cent.
In FY21, the company derived 64.9 per cent of its revenue from India, while Europe (25 per cent), the USA (7 per cent) and other foreign countries (3 per cent) made up the rest. Sansera is one of the top 10 global suppliers of connecting rods in the light-vehicle segment (2.3 per cent market share) and in the commercial-vehicle segment (3 per cent) for CY 2020.
As expected by CRISIL Research, the precision-engineering industry is likely to log a CAGR of 10.2 per cent during FY 21-26, buoyed by the growth in domestic auto components and exports. Further, indigenous manufacturing in the defence segment is likely to propel the industry's growth. As on July 31, 2021, the company had 16 manufacturing facilities, of which 15 were based in India and one in Sweden.
1. Auto component makers work in close tandem with original equipment manufacturers (OEMs) and generally have long-term relationships with their customers. The company has long-standing relationships of 10 years or more with 12 of the top 20 customers.
2. Sansera is the largest supplier of connecting rods, rocker arms and gear shifter forks to two-wheeler OEMs in India. It is also the largest supplier of connecting rods and rocker arms to passenger-vehicle OEMs in India. The company has been associated with Bajaj for 25 years and Honda Motor and Yamaha for over 20 years in the two-wheeler segment. In the passenger-vehicle segment, it has been associated with Maruti Suzuki for over 30 years.
3. While production in the auto sector has declined over the last year, the company has been able to increase its revenue by 4.6 per cent from Rs 1,393 crore to Rs 1,457 crore. The company outperformed the industry trends by introducing new product families and acquiring new customers.
4. Sansera's operations are integrated across the product cycle and almost all manufacturing activities are carried out in-house. This enables it to respond to any customer requirements or changes in product specifications quickly and efficiently. Also, this helps them closely monitor product quality, production costs and delivery schedules.
1. The company faces customer-concentration risk, as its top three customers accounted for around 45 per cent of FY21 revenue. Bajaj, its biggest customer, contributed around 21 per cent to the FY21 revenue.
2. Connecting rod (about 40 per cent of FY21 revenue) is an important component of the internal combustion engine (ICE). The shift towards cleaner energy fuel, mainly electric vehicles, will lead to the replacement of engine components with batteries and motors, which will render the biggest product segment of the company useless.
3. When it comes to the development of several technologically advanced automotive systems and components, the lead time is quite long. So, if the company is unable to bring enough products to the market (and before its competition), then its business will face the brunt.
1) Are the company's earnings before tax more than Rs 50 crore in the last 12 months?
Yes, the company's earnings before tax for FY21 stood at Rs 146.1 crore.
2) Will the company be able to scale up its business?
Yes. The company's capacity utilisation for various product segments was in the range of 31 per cent to 67 per cent. In addition to the idle capacity, as on July 31, 2021, the company was awarded contracts from 35 customers in the automotive sector and 21 customers in the non-automotive sector.
3) Does the company have recognisable brands, truly valued by its customers?
Not applicable. The company is involved in the B2B supply of precision-engineered components. It is a single-source supplier in certain product categories for some of its key customers and has long-standing relationships with several well-known Indian and global OEMs.
4) Does the company have high repeat customer usage?
Yes. In the precision-component industry, OEMs tend to have extensive and detailed vendor approval processes, which typically take 18 to 24 months. Given the time and effort involved in the approval process, OEMs typically do not switch vendors unless there is any specific quality- or cost-related issue. The company has had long-standing relationships of 10 years or more with 12 of its top 20 customers.
5) Does the company have a credible moat?
Yes. Despite slow growth in the global auto market in the last few years, the company was able to maintain an average EBITDA margin of 17.64 per cent during the last three years till FY21 as compared to the global peer set average of 11.83 per cent during CY18-CY20. Also, there are a number of entry barriers, as precision-component manufacturing is a capital-intensive business and involves complex technology, machinery and systems.
6) Is the company sufficiently robust to major regulatory or geopolitical risks?
No. The company derives the majority of its revenue (about 40 per cent) from selling connecting rods, which are a component of ICE. Any regulatory order (India or abroad) mandating faster transition to EVs could result in a loss of revenue. Additionally, the company operates in an industry where various approvals are needed and environmental laws are imposed.
7) Is the business of the company immune from easy replication by new players?
Yes. Precision forging is a highly technical business. Owing to the critical application of products and stringent quality requirements, it is difficult for new players to become qualified in supplying precision components.
8) Is the company's product able to withstand being easily substituted or outdated?
No. As mentioned earlier, the transition to EVs will put the company's engine component products at the risk of obsoletion.
9) Are the customers of the company devoid of significant bargaining power?
No. The company derives around 45 per cent of its revenue from the top three customers. The company does not have any firm commitment to long-term supply agreements with its customers. Instead, it relies on purchase orders issued by its customers from time to time. However, when it comes to exports (35 per cent of FY 21 revenue), Sansera enters into various purchase and supply agreements.
10) Are the suppliers of the company devoid of significant bargaining power?
No. The company's primary raw materials include alloy steel round bars and non-ferrous alloys such as aluminium and titanium and assembled components, such as roller bearings, screws, crankpins, bolts, bushes and sintered tips. The pricing of these products is impacted by the underlying price of commodities such as steel, aluminium, etc., and the company is a price taker.
11) Is the level of competition the company faces relatively low?
No. The industry is extremely competitive. Although it is the largest supplier to two-wheeler and passenger-vehicle OEMs in India, its global market shares of 2.3 per cent in light-vehicle and 3 per cent in commercial-vehicle segments are not substantial.
12) Do any of the company's founders still hold at least a 5 per cent stake in the company? Or do promoters totally hold more than a 25 per cent stake in the company?
Yes. Post-IPO, the promoter and promoter group will hold about a 35 per cent stake in the company.
13) Do the top three managers have more than 15 years of combined leadership at the company?
Yes. The group CEO Mr B R Preetham has been associated with the company since 1992.
14) Is the management trustworthy? Is it transparent in its disclosures, which are consistent with SEBI guidelines?
Yes, we have no reason to believe otherwise.
15) Is the company free of litigation in court or with the regulator that casts doubts on the intention of the management?
Yes, the company is free from any material litigation.
16) Is the company's accounting policy stable?
Yes. As per the auditors' report, the accounting policy is stable.
17) Is the company free of promoter pledging of its shares?
Yes. The company's shares are free of any pledging.
18) Did the company generate a current and three-year average return on equity of more than 15 per cent and return on capital employed of more than 18 per cent?
No, the three-year average ROE and ROCE stood at 13.8 per cent 14.3 per cent, respectively. The current ROE and ROCE both stand at 13.8 per cent in FY21.
19) Was the company's operating cash flow positive during the last three years?
Yes, the company's operating cash flow was positive in the last three years.
20) Did the company increase its revenue by 10 per cent CAGR in the last three years?
No. The company's revenues declined from Rs 1,624 crore in FY19 to Rs 1,549 crore in FY21.
21) Is the company's net debt-to-equity ratio less than one or is its interest-coverage ratio more than two?
Yes. The company's net debt-to-equity ratio stood at 0.42 as of FY21 and its interest-coverage ratio stood at 3.95.
22) Is the company free from reliance on huge working capital for day-to-day affairs?
No, the company is engaged in a business that is capital-extensive. Also, working-capital days stood at 75 days, which means that the company takes at least two and a half months to generate cash for its sales.
23) Can the company run its business without relying on external funding in the next three years?
No. The company relies on internally generated cash and third-party debt to fund its working capital and capital-expenditure requirements. As on March 31, 2021, the company had a cash and bank balance of only Rs 65 crore. Given the improved outlook for the industry, low capacity utilisation and new business awards, the company has room to grow. Additionally, the company is in the process of setting up a dedicated facility for manufacturing hybrid and electric components at one of its plants. The company is also planning to construct a greenfield manufacturing facility dedicated to the aerospace and defence segments.
24) Have the company's short-term borrowings remained stable or declined (not increased by greater than 15 per cent)?
Yes, the company's short-term borrowings declined from Rs 213 crore in FY19 to Rs 187 crore in FY21.
25) Is the company free from meaningful contingent liabilities?
Yes, the company's contingent liabilities stood at mere Rs 9 crore, which is less than 0.01 per cent of its equity.
26) Does the stock offer an operating-earnings yield of more than 8 per cent on its enterprise value?
No. The company will give an operating-earnings yield of around 4.6 per cent based on March 2021 operating earnings.
27) Is the stock's price-to-earnings less than its peers' median level?
Yes. Post IPO, the company's stock will trade at a P/E of around 35.4, which is less than its peers' median P/E of 57.3.
28) Is the stock's price-to-book value less than its peers' median level?
Yes. Post IPO, the company's stock will trade at a P/B of around 4.3, which is less than its peers' median P/B of 6.3.
Disclaimer: The authors may be an applicant in this Initial Public Offering.
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