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Essar Shipping, Ports and Logistics Limited
Demerger to unlock value
Investment rationale
To demerge port business
The company has embarked on a demerger scheme which envisages the split
into two, i.e., a port and a shipping entity. As per the proposed demerger
scheme, investors will get two shares of Essar Port and one share of Essar
Shipping.
Second largest port with 158mtpa capacity
Post demerger, ESPL has aggressive plans to emerge as one of the largest
private port operators in India, with a total port capacity of 158mtpa by FY13e
(current capacity 76mtpa). The company is developing port capacity for liquid
and bulk cargoes at four locations across West and East Coast of India, at
an outlay of INR85.2bn.
Long-term business commitment from group companies
The Port and logistics business would be providing services to group
companies like Essar Steel, Essar Power for handling of bulk cargo and
Essar oil for crude import and export of finished products. The scale up in
operation of these group companies also provides strong visibility to
earnings.
Port EBIDTA to post 58% CAGR to INR18.7bn over FY10-14e period
We expect the port to increase average realisation from INR173/mt in FY10
to INR248/mt in FY14 on account of favorable product mix. This, along with
a 31% CAGR increase in volumes, has the potential to propel revenues from
INR4.1bn in FY10 to INR25.4bn in FY14e.
Valuation and outlook
At the current market price of INR105, there is a lucrative arbitrage opportunity
considering that the valuation of port business will align with its peers on
account of emerging as a focused entity. With our estimates of port valuation
at INR126/share and SOTP valuation of shipping, logistics and oilfield business
at INR47/share, we arrive at a target price of INR173. Hence, at current
levels, we reiterate our BUY recommendation.
Investment rationale
Restructuring plan to unlock value
ESPL had announced plans to separate its shipping, logistics and oilfields businesses
into a separate entity, i.e., Essar Shipping, while the existing entity will be renamed as
Essar Ports (the approval is expected by Feb 2011). As per the proposed demerger
scheme, investors will get two shares of Essar Port and one share of Essar Shipping.
Company's port operations have a capacity to handle 76mtpa currently, which is
planned to increase to 158mtpa by FY13e. A separate entity for port business will
enable it to follow an independent growth path creating better value for stakeholders.
The port business is also expected to get a re-rating in valuation in terms of higher
earnings multiples compared to pure shipping company as its valuations are aligned
with its global and domestic peers
Essar Port Business
Essar Port will hold all port and storage assets for liquid and bulk cargo through separate
Special Purpose Vehicles (SPV) dedicated to each terminal. The company has 46mtpa
liquid terminal and 30mtpa bulk terminal operations at Vadinar and Hazira, respectively.
ESPL has outlined aggressive plans to emerge as one of the largest private port operators
in India. The company is developing port capacity for liquid and bulk cargoes at four
locations spread on West and East coast of India at an outlay of INR85.2bn After
completion, liquid cargo handling capacity will increase from 46mtpa to 158mtpa and
dry bulk capacity will reach to 100mtpa in FY13e. The Port business is expected to
become number one in terms of cargo handling with a capacity of ~110mt by FY14e
(assuming 8% CAGR growth in major port cargo handling).
Demerged Entity: Shipping, Drilling and Logistics
Shipping, Drilling and Logistics will be demerged into separate listed entity Essar
Shipping. The new entity will have equity share of 210m compared to 610m currently.
Shipping
ESPL owns and operates a fleet of 26 vessels (2 tankers, 18 dry bulk, 6 support vessels)
with a total deadweight tonnage of 1.4m. These cater to captive demand of group and
are employed on long term contracts. ESPL does not have exposure to sport market as its
current fleet is on long term charter, thereby imparting strong visibility to earnings.
Essar Oilfield Services Limited (EOSL)
EOSL owns and operates 13 drilling rigs (1 semi-submersible, 12 onshore). Essar Wildcat,
a 3rd generation semi-submersible offshore rig, is deployed with Vietsovpetro JV. Two
new jack-up rigs on order for ~ USD480m with ABG shipyard are expected in FY12e
Essar Logistics Limited (ELL)
ELL provides logistics, stevedoring and lighterage services and owns material handling,
lighterage and mobile equipments for efficient jetty operations and a fleet of dedicated
trailers and tankers to cater to the movement of steel and petroleum products. It provides
end-to-end logistics services - from ships to ports, lighterage services, intra-plant logistics
and dispatch of finished products. It also operates a fleet of 5,000 trucks (76 of which
are own) to provide inland transportation of steel and petroleum products.
Financials of demerger
The ongoing capex of USD1.16bn in ports for 109mtpa, USD440m in oil drilling and
acquisition of 12 dry bulk ships on lease basis would augment its asset base substantially
and propel its consolidated revenues and profits by a CAGR of 24.3% and 81% to
INR56.8bn and INR7.34bn, respectively, from FY10 to FY13e. Accordingly, we expect
a significant re-rating in valuations once the financial impact of the above capex
becomes discernible and ESPL capitalises on operating leverage. Please refer the
alongside charts for the details of dermerger.
Valuation and outlook
Demerger to provide arbitrage opportunity by re-rating port business
ESPL's asset rich integrated business model is well positioned to capitalize on the industrial
and trade growth in India with its diversified business in shipping, ports and logistics
as it would be grabbing an increasingly large share of the logistical spend of its
clientele. The contractual demand from group companies and third parties gives strong
revenue visibility to its earnings
As the company is in a huge capex phase which is maturing in a staggered manner,
we believe the DCF would be better method to value the company. The shipping
business is valued on earnings basis and not on Net Asset Value basis considering the
long term employment of vessels. As most of its projects are getting completed in FY12e
and FY13e, we have considered FY13e estimates for our valuation of Shipping and
Oilfield. However, for one year target price, we have discounted the estimated value
assuming cost of equity @14%. We expect significant rerating for port business after
expected demerger. The port business has been valued at INR125.2bn (EV) on account
better valuation for separate port business with reference to domestic peers and improved
visibility in earnings.
Our discounted cash flow valuation of port of INR77.7bn translates into INR126 per
share and sum of the parts (SOTP) valuation of shipping, logistics and oilfield business
of INR47 per share and gives a target price of INR173. Hence, at current levels, we
reiterate our BUY recommendation.
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