Royal Arc NSE SME IPO review (May apply)

•    The company is engaged in the business of manufacturing and marketing of welding consumables and related products.
•    It is also trading in ancillary/incidental products in line with its business model.
•    The lion share of its revenue comes from B2B segment.
•    The company posted growth in its top lines, but sudden spurt in its bottom lines from FY24 onwards raises eyebrows and concern over its sustainability.
•    Based on its recent financial performance, the issue appears fully priced.
•    Well-informed investors may park moderate funds for medium to long term.

ABOUT COMPANY:
Royal Arc Electrodes Ltd. (RAEL) is engaged in the business of manufacturing of welding consumables such as, welding electrodes, flux cored wire, MIG/TIG wires, which finds its application in the welding of tanks, boilers, heavy structures, beams, pipes, cylinders, pressure vessels, etc. which are used in industries like railways, roadways, airport infrastructure, refineries, shipyards, mines, sugar industries, telecom industries, thermal power stations, PEB sectors, etc. Further, the Company is also engaged in the business of trading of ancillary/incidental products like wheels, electro slag, welding flux cored wire, electro slag strip cladding, saw flux and TIG /MIG wires.

It manufactures products from copper coated wire, MS Strips, MS wire, SS strip, SS wire, nickel wire, ferro alloy powder, etc conforming to international standards, from highly sophisticated and technically competent manufacturing facility spread over an area of 25082.61 sq. Mtr which is situated at Zaroli, Umbergaon Valsad, Gujarat, Bharat. At manufacturing facility, the raw materials undergo through a process of wire drawing and cutting, powder mixing, covering and baking. Accordingly, its existing manufacturing plant consists of extrusion units, baking ovens, drawing units, cutting units, forming mills, powder mixers, packing machines and testing labs. The Company has the necessary instruments such as, chemical analysis instrument, spectro-meter, material testing lab equipment and is backed by related quality assurance equipment’s for measuring chemical and mechanical properties along with their sizes and shapes of raw materials and finished goods to match international and domestic standards as well as customer specifications. Its manufacturing facility is also accredited with ISO 9001:2015 certified by DNV – Business Assurance.

The company is capable of manufacturing both standardized as well as customized products. It supplies products to domestic customer and also exported products to customers spread across 20+ countries. The lion share of revenue is contributed by B2B segment. Its capacity utilization remains around/under 40% for flux cored wire and Welding electrodes. As of December 31, 2024, it had 144 employees on its payroll.

ISSUE DETAILS/CAPITAL HISTORY:
The company is coming out with its maiden book building route combo IPO of 3000000 equity shares to mobilize Rs. 36 cr. (at the upper cap). The IPO consists of 1800000 fresh equity shares (worth Rs. 21.60 cr. at the upper cap), and an Offer for Sale (OFS) of 1200000 equity shares (worth Rs. 14.40 cr. at the upper cap). The company has announced a price band of Rs. 114 – Rs. 120 per share of Rs. 10 each. The issue opens for subscription on February 14, 2025, and will close on February 18, 2025. The minimum number of shares to be applied is for 1200 shares and in multiples thereon, thereafter. Post allotment, shares will be listed on NSE SME Emerge. The issue constitutes 27.03% of the post-IPO paid-up capital of the company. From the net proceeds of the fresh equity issue, the company will utilize Rs. 4.89 cr. for funding expansion of existing manufacturing facility, Rs. 14.00cr. for working capital, and the rest for general corporate purposes. 

The IPO is solely lead managed by Fedex Securities Pvt. Ltd., KFin Technologies Ltd., is the registrar to the issue. Shreni Shares Ltd., is the Market Makers for the company and also a syndicate member. The issue is underwritten to the tune of 15% by Fedex Securities and 85% by Smart Horizon Capital Advisors Pvt. Ltd. 

The company has issued entire initial equity shares at par value so far. It has also issued bonus shares in the ratio of 411 for 100 in February 2024. The average cost of acquisition of shares by the promoters is Rs. 1.28, Rs. 1.67, Rs.  8.58, Rs. 13.56, Rs. 18.93, and Rs. 22.50 per share. 

Post-IPO, company’s current paid-up equity capital of Rs. 9.30 cr. will stand enhanced to Rs. 11.10 cr. Based on the upper price band of the IPO, the company is looking for a market cap of Rs. 133.20 cr. 

FINANCIAL PERFORMANCE:
On the financial performance front, for the last three fiscals, the company has posted a total income/net profit of Rs. 64.82 cr. / Rs. 2.12 cr. (FY22), Rs. 98.04 cr. / Rs. 9.57 cr. (FY23), and Rs. 100.99 cr. / Rs. 11.93 cr. (FY24). For H1 of FY25 ended on September 30, 2024, it earned a net profit of Rs. 3.18 cr. on a total income of Rs. 46.06 cr. The quantum jump in top and bottom lines from FY24 onwards raises eyebrows and concern over its sustainability. There appears to be some window dressing to fetch fancy valuations for the IPO. It is operating in a highly competitive and fragmented segment.

For the last three fiscals, the company has reported an average EPS of Rs. 10.22 and an average RoNW of 26.32 %. The issue is priced at a P/BV of 2.46 based on its NAV of Rs. 48.87 as of September 30, 2024, and at a P/BV of xx based on its post-IPO NAV of Rs. 60.40 per share (at the upper cap).

If we attribute FY25 annualized super earnings on post-IPO fully diluted equity capital, then the asking price is at a P/E of 20.98. Based on FY24 earnings, the P/E stands at 11.17. Based on its recent earnings, prima facie, the issue relatively appears fully priced. 

For the reported periods, the company has posted PAT margins of 3.37% (FY22), 9.87% (FY23), 11.95% (FY24), 6.96% (H1-FY25), and RoCE margins of 12.63%, 41.81%, 37.73%, 8.92%, for the referred periods, respectively.

DIVIDEND POLICY:
The company has not declared any dividends since incorporation. It will adopt a prudent dividend policy, based on its financial performance and future prospects. 

COMPARISION WITH LISTED PEERS:
As per the offer document, the company has shown Esab India, Ador Welding, Gee Ltd. and Rasi Electrodes, as their listed peers. They are trading at a P/E of 41.4, 18.0, 39.0, and 23.2 (as of February 11, 2025). However, they are not truly comparable on an apple-to-apple basis. 

MERCHANT BANKER’S TRACK RECORD:
This is the 36th mandate from Fedex Securities in the last four fiscals.  From the last 12 listings, 1 opened at discount, and the rest with premiums ranging from 1.43% to 90% on the date of listing.