Paras Defence And Space Technologies IPO: The 'Optics' Will Depend On Statecraft

Paras Defence and Space Technologies Limited's IPO opens today. The company is looking to raise Rs 140 crore through fresh issuance of equity and an offer for sale through which existing investors and promoters will be selling their shares.

The company plans to use the proceeds for the purchase of new machinery and to fund the company's high working capital requirements.

Further, the company also plans to pay back a part of the debt it has accrued.

Paras is involved in designing, developing, manufacturing and testing of a wide range of defence and space engineering products. The company is in the Indigenously Designed Developed and Manufactured (IDDM) category of companies in India belonging to the private sector.

Paras is the only Indian supplier of critical imaging components such as large size optics and diffractive gratings for space applications in India.

It focuses on four major segments of the Indian defence sector — space and defence optics, defence electronics, electro-magnetic pulse (EMP) protection systems and heavy engineering.

Defence and Space Optics: The defence and space optics segment includes manufacturing high-quality optics for defence and space applications. These applications include thermal and space imaging systems. Paras is the only Indian company with design capabilities for space-optics and opto-mechanical assemblies.

Defence Electronics Segment: The defence electronics operations involve providing a diversified range of high-performance electronic and computation systems for defence applications. These include systems for missiles, tanks and naval applications.

EMP Protection Solutions: The EMP protection solutions include designing, manufacturing and commissioning various solutions for EMP Protection. The company focuses on customised turnkey projects in the defence segment.

Heavy Engineering: The heavy engineering segment involves providing several critical components for rockets and missiles. The segment also serves as a support system for other segments.

The company has two manufacturing plants, one in Ambernath and one in Nerul. It also has research centres in Nerul and Bengaluru.

Revenues have fallen from Rs 154 crore in financial year 2019 (FY19) to Rs 147 crore in FY20 and subsequently to Rs 143 crore in FY21. The 3 per cent drop in revenue stemmed from supply chain disruptions and a general slowdown in the sector.

The company's operating margins stand at 30 per cent as of FY21. This is an increase from the previous year's margins that stood at 26 per cent. The increase can be attributed to the higher revenue from the optics segment, which stands at around 50 per cent, in comparison to the other segments, which have margins of around 15-25 per cent.

Paras' five largest customers contribute to 60-70 per cent of the revenues. Bharat Electronics Limited is one of its largest customers, which contributes to almost 16 per cent of the company's revenues.

The sector is extremely capital heavy which is evident from the fact that the company has Rs 150 crore in fixed assets but has revenues of Rs 143 crore.

Therefore, every rupee spent on plant property and equipment yields less than a rupee in sales.

The company's debt-to-equity ratio has hovered around 0.5 times over the last few years. Cash flows have turned positive only in FY21, and the company has witnessed negative cash flow in the past.

The negative cash flow can be attributed to high working capital requirements.

With earnings per share of Rs 4, the price-to-earnings ratio stands at 43 times. While there are no direct listed competitors, other defence players have lower margins.

The capital intensive nature of the business forces companies to take up more debt to grow. In the past, several companies in the defence space had to file for bankruptcies. Investors should keep the low rates of success in the industry in mind.

Key Risks

Dependence on Government

The future of the defence sector is highly dependent on government policies and government spending. If government spending stops or the government decides to buy from other vendors, the company might face tough times.

For 2021, the company derived 50 per cent of its revenues from government entities.

Customer Concentration

The company is dependent on a few customers for a large part of its revenues. Its top five customers have contributed to 60-70 per cent of its revenues in the past.

Therefore, the loss of a large customer can impact the company adversely.

Capital Intensive Sector

The company has a high capital requirement for both fixed and working capital. A large part of the IPO proceeds will be used to take care of working capital requirements.

In the past, the company has reported negative cash flows due to working capital issues. The company has been continuously investing in fixed assets to grow its operations, which requires constant funding. The auditors have also highlighted issues such as delay in paying income taxes, statutory dues, employee provident funds and others.

Covid Related Issues

Any closures in operations or any disruptions in the supply chain can prevent the company from carrying out its operations smoothly. Further, a slowdown in the economy might also reduce government spending.