APL Apollo Tubes Rating ‘Buy’; Shankara deal to be EPS-accretive

Mgmt expects investment to boost growth momentum; ‘Buy’ retained with TP of Rs 1,110

APL Apollo (APL) has announced a minority equity investment proposal by its wholly owned subsidiary APL Apollo Mart Ltd (Apollo Mart) into Shankara Building Products Ltd (Shankara). APL will end up owning ~9.9% of Shankara for a total investment of Rs 1.8 bn (~6% of APL’s total capital employed as of end-Dec’21). This will be through a combination of purchase of secondary promoter shares (1mn shares @Rs 755/share) and proposed preferential allotment of convertible warrants (1.4mn shares @Rs 750/share). Shankara was valued at 0.9x EV/sales (FY22 annualised).

The investment will be funded via internal accruals and is expected to be EPS and RoCE accretive from the very first year. APL sees an opportunity to potentially double its existing sales from Shankara. We maintain Buy on APL with a target price of Rs 1,110/share.

Investment rationale: According to management, (i) the investment is aligned with APL’s growth plan, (ii) Shankara would be an ideal launch platform for APL’s new products, (iii) there would be synergies through Shankara’s retail/ wholesale network, (iv) expansion of the structural steel tubes market and (v) association would ensure sales consistency as Shankara is amongst APL’s key distributors.

APL Apollo + Shankara associations: Shankara distributes ~0.1mnte of APL Apollo’s volumes. In April’19, APL acquired Shankara’s 0.2mnte Hyderabad plant for ~Rs 700 mn. APL recovered its entire investment cost within three years, boosting its overall ROCE. Current Ebitda generation (estimated) from that plant is Rs 400-500 mn pa. With the current investment, management expect sales consistency to be maintained along with growth momentum. APL sees an opportunity of potentially doubling sales through Shankara using its extensive retail/wholesale network.

About the deal: The investment will be made through a combination of purchase of secondary promoter shares and proposed preferential allotment of convertible warrants, taking the total investment size to Rs 1.8 bn. Apollo Mart will make an immediate investment of ~Rs 1.018 bn (secondary market purchase +25% warrant subscription money) and the remaining investment of ~Rs 787 mn will be made within 18 months (75% on warrant conversion). The target deal is expected to be completed in Q1FY23 subject to approvals.

Risks: We haven’t factored in any additional investments for strengthening the distribution/retailing framework for APL. More such investments, going forward, may have implications for future RoCE.

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