Esteem Bio Organic Food Processing IPO Note by Naman Sec (Avoid)

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Review By Naman Securities and Finance Pvt. Ltd on Jan 18, 2013

The IPO calendar of 2013 kicks-off with the Esteemed Bio Organic Food Processing Ltd. (EBOFP) SME IPO on BSE open from January, 18-22. EBOFP intends to raise Rs 11.25 crs through the issue for expanding its organic farming activities and setting up a shade net cultivation facility. The issue price is fixed at Rs 25 per share with the minimum application size being 6000 shares. EBOFP is a group company of Eco Friendly Food Processing Park Ltd. (EFFPP), which came out with an IPO in December 2012. Interestingly, both the companies have stark similarities in operations, management, auditors, board of directors and even the DRHP content! So don't blame me for two IPO-reviews that look alike! On a serious note, in this post I highlight points specific to EBOFP and evaluate the attractiveness of the offer.

Financial summary:

• Revenues have grown at a healthy pace from Rs 2.2 mn in FY09 to Rs 30.4 mn in FY12. In FY12, EFFPP reported revenues of Rs 38 mn. However, EBOFP has clocked revenues of Rs 26.4 mn in the first half of FY13 compared to only Rs 9.2 mn for EFFPP in the same period.
• RoE trends are similar for both the companies.
  

Promoters new to the business!

EBOFP, incorporated in 1995 was originally promoted by Mr. Manoj Gupta and Mr. Hari Krishnan Gupta as a construction company. Subsequently in 2008, the company changed its name and shifted business focus to agricultural operations, including processing and distribution of agricultural commodities. The DRHP has no mention of the activity of the company in between 1995 to 2008 nor the reason for the resignation of its original promoters in 2012. Thus, the current promoter, Mr. Brij Kishore Sabharwal is on board since March 2012 and is fairly new to the overall business. Interestingly, the DRHP mentions that Mr. Amar Singh Bisht is also the promoter of the company; however he too has resigned in September 2012 due to 'pre-occupation'. He was the only member on board who had the relevant experience in the field of agriculture and food processing. A churn at the promoter level twice in two years is a cause of concern. Further, since, the current promoter is new to the company, it is difficult to ascertain his track record.

Conflict of interest with a group company

Mr.Brij Kishore Sabharwal is also one of the promoters (other being Mr. Amar Singh Bisht) of a group company EFFPP which is engaged in the similar business of cultivating wheat, paddy, fruits, vegetables and wood plantation in the Uttarakhand state. The other similarities: a) EFFPP listed on the BSE SME exchange in January 2013; the primary objective of the IPO for both the companies is to develop the farm land for transition to organic farming b) The current promoters acquired majority stake in EFFPP in March 2012, with the resignation of the original promoters.c) The independent directors are common to both the companies.

Clearly, these two entities are inter-related in many ways and coupled with the absence of a 'no-conflict' agreement, questions arise on the promoter's ability to act in the best interests of both the firms.

Primary objective to transition to organic farming and set up shade net cultivation facility

Of the Rs 11.25 crs that the company plans to raise through the IPO, Rs 5.6 crs is for the purpose of developing the farm land to transition to organic farming. Organic farming activities are rapidly growing in India given the health and environment benefits along with high export demand. Hence, it is a step in the right direction. However, the company is yet to receive the approval from the Gram Panchayat for the soil bed. Any delays in receiving the approval will delay the deployment of funds, thereby suppressing the RoE post the public issue. The company has also allocated Rs 3.8 crs to set up a shade bet cultivation facility over an area of 10 acres. Shade net cultivation will enable production during off-season in a controlled environment.

Performance of EBOFP on listing

EBOFP, with an issue price of Rs 25, has seen sustained downfall in stock price since its listing on the January 14, 2013. It has now converged with my fair value estimate of Rs 22 per share.

Valuations expensive; avoid the IPO

I have applied a similar methodology as for EFFPP for valuing the issue of EBOFP. I have compared the trailing PE multiples of REI Agro, KRBL, Lakshmi Energy and Foods Ltd. and Usher Agro with that of EBOFP. Since agri-commodity business are inherently subject to significant volatility due to weather conditions and commodity prices, it is a safer bet to look at the trailing multiples rather than the forward multiples. At the issue price of Rs 25, the implied trailing PE multiple for EBOFP is 6.7x, same as the average trailing PE multiples for the four companies mentioned before. In my opinion, EBOFP should trade at-least at a discount of 15% from its peers considering a) it is very small in revenue terms compared to its peers - Usher Agro the smallest of the other four players - is 200 times the size of EBOFP in revenue terms! b) since the management is new scaling up operations is a key monitorable c) conflict of interest with a group company.

At a PE multiple of 5.5x, I arrive at a fair value of Rs 20-21 indicating downside to the issue price. The listed peers of EBOFP are relatively better priced hence the EBOFP issue is best avoided.