APL Apollo is the largest player in the Indian ERW (Electric Resistance Welded) pipes market with an installed capacity of 3.6 MTPA and ~55% market share in the Structural Steel Tubes market. What are the different types of steel tubes and how big is the market? Let's take a deep dive:
Industry
India is amongst the top steel pipe manufacturers in the world with capabilities to manufacture crude steel to value-added steel products, including pipes & tubes. The easy availability of raw materials and low labor costs have supported India’s progress in this industry.
India’s steel pipes & tubes market is currently estimated at ~Rs 600-700 bn in value and ~11-12 MTPA in volume; including DI (Ductile Iron) pipes which form ~Rs 75 bn market in value and ~2 MTPA in volume. Excluding DI pipes, the industry is equally split between ERW and SAW (Submerged Arc Welded) and Seamless pipes with a market size of ~Rs 300 bn each in value terms; by volume, the ratio stands at 70:30 respectively. As per Dun & Bradstreet, India’s current manufacturing capacity of steel pipes & tubes stands at ~21.5 MTPA, which is further split into welded, seamless, and casted/ DI pipes with respective capacities of 16.3 MTPA, 1.5 MTPA, and 3.7MTPA. Within the welded pipes segment, ERW capacity is estimated at ~9.5 MTPA, and SAW pipes at ~6.8 MTPA.
The below table is a summary of the overall steel pipes & tubes industry:
Source: Dun & Bradstreet, Equirus, Company Annual reports, Presentations
Industry players business comparison:
A few points that become evident from the above tables,
1. ERW segment operates on wafer-thin margins which means companies must be extremely efficient (high asset turns) to consistently deliver good return ratios. The low EBITDA/ton in this segment is an entry barrier for other peers to expand in the ERW space aggressively.
2. APL Apollo’s scale and technology advantage is evident in the higher gross margins among its direct competitors. Being the largest consumer of steel (2% of India’s steel and 10% of HR Coil consumption) in India, APL Apollo saves 1-1.5% on raw material costs. Add to this, their vast product portfolio of value-added products, and industry-leading distribution network make them the lowest-cost producers in this space.
3. The industry size is small for the large players to make a big foray into it. The overall ERW industry is about Rs. 30,000 crores. If you take Tata Steel for example which supplies a large chunk of raw material to this industry, their turnover is in excess of Rs. 2 lakh crores annually. Also, since 85-90% of the cost is for raw materials, Tata Steel is already capturing that piece in its revenues.
ERW Industry
Traditionally, ERW pipes were mainly used for water and oil & gas transportation, over the years, newer applications have been found in construction/structural applications which now dominate the overall ERW pipes market (~75% of the end-user market). Currently, the ERW industry volumes are about 6-7 MTPA (historical growth of ~6%). With increasing use cases, the ERW industry is expected to grow at 9-10% CAGR going forward. Of the 6-7 MTPA market, structural steel tubes make up ~4-4.5 MTPA (the primary market). The remaining is generally the secondary market (tubes made of steel scrap instead of HRC Coil). As per the management, the primary market will continue to take up market share and will form ~6 MTPA by FY25 of which APL Apollo will have a capacity of close to 5 MTPA.
In terms of products, the ERW segment can be divided into GI pipes, Pre-galvanized Pipes (GP), Hollow Sections which enjoy higher margins, and Black pipes where operating margins are lower. Within the ERW segment, the Structural Steel Tubes sub-segment has grown the fastest and APL Apollo is the dominant player in this area with a 55% market share. Most other ERW players generate a large revenue portion (~25-40%) from Galvanized Iron (GI) pipes – largely used for water transportation. GI pipes have faced stiff competition from plastic PVC pipes which are increasingly taking away market share over GI pipes. On the other hand, APL Apollo derives only about ~4% of revenue from GI pipes. This market positioning has helped APL Apollo to continuously gain market share (29% in FY16 to 55% in FY22).
Moats in the APL Apollo's business
Distribution and presence: APL Apollo has 3x manufacturing facilities and 3x capacity, 3x SKUs as compared to its nearest competitor. Their supply chain strength is visible in terms of the reduction in delivery time from 15 days a few years ago to 4 days now. Going forward, management aims to achieve a delivery time of 24 hours for almost 90% of its portfolio – which is unheard of in this industry. This is a very similar moat building as was in the case of Asian Paints (3–4-hour delivery from depot to dealer vs 1-2 days by other peers). What this does, is help the dealer keep a lower inventory and improve his working capital. The dealer’s preference for this setup is also evident from the smooth transition from the credit model to the cash and carry model for APL Apollo.
Scale Benefits: As mentioned earlier, APL consumes 2% of India’s steel and 10% of HR Coil which helps them get a 1-1.5% benefit on RM pricing vs peers. This is evident from the Gross Margin differential vs peers.
DFT Technology: DFT technology is used to make customized hollow sections at speed. In conventional technology, a round pipe is formed first and then converted to square and rectangular shapes. However, in DFT, square and rectangular sections are formed directly through welding at high production speed.
APL Apollo has the DFT lines set up in almost all plants (approx. 16-17 DFT lines). Its peers – Surya Roshni has only 1 DFT line installed and Hi-tech pipes looking to add its first. A single DFT line costs about Rs. 30-40 crores vs. Rs. 3-4 crores for a conventional line which acts as a barrier for small players.
DFT benefits in terms of flexibility to modify tube dimensions without forming any roll change and save 7-8% on direct material. The one limitation that the ERW industry always had was the limitation in sizes and dimensions. DFT technology goes a long way in solving that problem and increasing use cases. In 40% of the products, APL Apollo faces no competition today.
Business Growth Levers:
The structural steel tubes industry is expected to grow to about 20 MTPA over the next decade – 15%+ CAGR. Expect APL Apollo to grow faster than the industry and gain market share.
Industry use cases increasing:
Residential housing: Housing makes up ~55% of APL Apollo’s volumes. As per Knight Frank, current new launches by real estate developers is at an all-time high which bodes well for APL Apollo.
Source: Knight Frank
Warehousing: Structural steel is finding applications in the warehousing space as well. According to Knight Frank Research, annual warehousing transactions will grow at 19% CAGR to 7.08 mn sq m in FY26 from 2.95 mn sq m in FY21.
Use cases in PEB (Pre Engineered Building) structures: The usage of structural steel tubes in India is just 5% in PEB structures as against a global average of 20%, indicating a big headroom for growth in India. During FY20-21, APL Apollo entered the PEB space to build 6 medical buildings leveraging the newly launched APL Columns- hollow sections which started with ranges from 150x150 mm to 300x300 mm. APL Apollo has now introduced 500x500 and will add 1000x1000 mm hollow sections in FY24. Steel tubular technology is gaining increasing acceptance in construction projects (45 projects under inquiry with APL Apollo as of Mar’23). Tubular technology provides an advantage across all four fronts i.e. time (7-8 days per slab vs 20-25/slab in RCC), cost, quality (better strength and resistance seismic loading), and environmental impact (recyclable) over conventional RCC.
Increasing value-added products: Value Added products offer better EBITDA/ton. The share of Value-Added products is 56% in FY23 revenues (40% in FY16). With the new Raipur plant capacity of 1 MTPA which is fully allocated for higher EBITDA/ton products, management expects the share of value-added products to be close to 75% of the overall revenues. This should aid the margin profile of the company.
Other Infrastructure: Steel tubes find application in airports and metros where APL Apollo supplies ~60% of steel tube demand and can find applications in railway re-development projects as well.
Management
APL Apollo is a promoter-run business currently led by Sanjay Gupta who has been managing this company for the last two decades. The management team is focused on scaling up the business anchored on product innovation and market creation.
The execution track record of the management has been good: consistent guidance of 20%+ volume growth, reducing debt to equity, increasing share of value-added products, successful large capex, and integration of acquisitions over the years. In terms of capital allocation, the management has been able to consistently deliver 20%+ ROE which continues to be on an upward trajectory. The new plant in Raipur which has been set up fully for value-added products, can deliver ROE north of 35%+ as the capacity utilization scales up in the next 2-3 years.
Valuations
At the current price of Rs. 1150, APL Apollo is trading at ~21x FY26 Forward EPS and ~5x P/B on an FY26 basis which is significantly higher than its past record. The multiple expansion over the years has been led by an increased margin profile, improved EBITDA/ton and consistently gaining market share along with sustained return ratios and a much deleverage balance sheet.
As a result, over the last 5 years, 28% EPS growth has led to a 45% return CAGR. A significant portion came from PE re-rating. Going forward, the return will be primarily driven by EPS growth. Do not see enough margin for multiple re-rating from here.
I expect APL Apollo Tubes to deliver upwards of 19% CAGR on revenues and 25% CAGR PAT growth over the next 5 years led by margin expansion with an increasing share of value-added products in the portfolio. While the fundamentals look good, I expect multiples to contract and stock to deliver mid to high-teens returns from CMP. Currently, APL Apollo Tubes makes up 6% of my overall portfolio. Would take any 10-15% corrections as opportunities to add and keep allocation in the broad range of 5 to 7%.
Have attached the Excel Valuation Model including DCF, PE, and EV/EBITDA-based valuations, and included the industry data in the same file.
Key risks to the thesis:
1. Competitive intensity: An increase in competitive intensity, mainly from big steel manufacturers, is the biggest risk to APL Apollo’s business. However, with the brand strength of APL Apollo and the wafer-thin margins in the ERW segment (vs margins on core products for steel manufacturers), I do not expect any significant pressure coming in on the competitive side coming for the medium term. Here’s a snippet of management’s response to this particular question in the recent conference call of Q4FY23:
Source: Q4FY23 Concall Transcript
2. Slow-down in residential and commercial construction
3. There is a key-man risk with Mr. Sanjay Gupta being the key driving force behind the company’s success
4. Excessive volatility in raw material prices, which will impact margins, and inventory and also potentially lead to a rise in secondary market demand.
Disclosure: I’m not a SEBI Registered Investment Advisor. All content on this website is purely for educational purposes. Please consult your financial advisor before making any decision.
コメント