Pipavav Defence & Offshore (PIPSHI) 63

Result Update Rating matrix Rating : Hold Target : 66 Target Period : 12 months Potential Upside : 5% What s changed? Target Changed from 55 to 66 EPS FY16E Changed from -3.8 to -5 EPS FY17E Changed from -2 to -4 Rating Unchanged Key financials Crore FY14 FY15P FY16E FY17E Net Sales 2,534 912 429 536 EBITDA 626 103 52 119 Net Profit 3 (399) (367) (293) EPS ( ) 0.04 (5.41) (4.98) (3.97) Valuation summary FY14 FY15P FY16E FY17E P/E 1639.3 NA NA NA Target P/E 2,123.0 NA NA NA EV / EBITDA 14.1 108.0 213.2 94.2 P/BV 1.8 2.4 2.3 2.6 RoNW (%) 0.1-20.5-17.8-16.6 RoCE (%) 6.0 (0.4) (1.4) (1.1) Stock data Particular Amount Market Capitalization ( Crore) 4,638.1 Total Debt (FY15) ( Crore) 6,715.4 Cash and Investments (FY15) ( Crore) 226.3 EV ( Crore) 9,202.1 52 week H/L 84 / 35 Equity capital 736.2 Face value 10.0 Price performance Stocks 1M 3M 6M 1 Yr Pipavav Defence -6.0-2.3-29.4 21.5 ABG Shipyard -17.3-1.2-25.8-41.8 Bharati Shipyard 27.2-4.2-2.3-33.5 Research Analyst Bharat Chhoda bharat.chhoda@icicisecurities.com Ankit Panchmatia ankit.panchmatia@icicisecurities.com November 19, 2015 Pipavav Defence & Offshore (PIPSHI) 63 Upgrade hinges on new management strategy Pipavav Defence & Offshore (PDOECL) posted Q2FY16 revenues of 54 crore compared to 107 crore in Q1FY16 and 212 crore in Q2FY15. Shipbuilding revenues were at 54 crore compared to 200 crore in Q2FY15. However, due to discontinuance of trading activities, revenues from the same remained nil compared to 13 crore in Q2FY15 Continued overheads unsupportive of revenue growth hit EBITDA, resulting in a loss of 7.4 crore in the current quarter compared to a loss of 10.3 crore in Q1FY16 and profit of 40 crore in Q2FY15 Higher depreciation and interest expenses further impacted PAT, which was at a loss of 170 crore compared to a loss of 68 crore in Q2FY15 and a loss of 167 crore in Q1FY16 Open offer by Reliance Infrastructure - new promoter at helm Reliance Infrastructure has acquired an approximate 18% stake in PDOECL at 63/share for a total consideration of 819 crore. Further, an additional 26% would be acquired by an open offer at 66/share, which would start from December 2. A subdued shipping industry and lower defence order from the government has resulted in a slack in revenues for PDOECL in past years. The revenue and expense mismatch led the company to a severe financial crisis with lenders suggesting it be referred to the corporate debt restructuring cell (CDR). The new management at the helm coupled with world class infrastructure positions the company as the most favoured defence asset play in India. Expertise in naval shipbuilding; provides scope for defence orders Pipavav Defence and Offshore Engineering (PDOECL) has already undertaken production of naval offshore patrol vessels. With one of the largest shipyard facilities capable of accommodating 400,000 dwt capacity ships, the company carries out an array of services ranging from construction and repair of a wide range of vessels starting from coastal to naval vessels. Spanning across 861 acres of land with two dry docking facilities, PDOECL is one of the largest defence shipbuilding facilities in India. The current order book was at 4000 crore. Strategic tie-ups to enable capture of forthcoming opportunity Recently, PDOECL signed an agreement with Zvyozdochka of Russia to refit its EKM 877 submarines in India. Furthermore, the company is one of those shortlisted with Larsen & Turbo to build six conventional submarines under its Project 75i. PDOECL formed a JV with Mazagaon Dock (MDL) providing exposure to MDL s ~$20 billion order book to capture the defence shipbuilding opportunity in India. Several strategic tie-ups with a slew of foreign partners SAAB, DCNS, Babcock, etc. enables the company to bid for defence projects. Upbeat outlook on sector; avoid open offer; recommend HOLD The government has approved 49% FDI in defence under the automatic route and is expediting indigenisation of defence procurement. PDOECL is placed at a vantage point for the same owing to its superior infrastructure. With Reliance Infra at the helm, the company would be able to combat long gestation defence projects. On the back of this, we recommend that investors not tender shares in the open offer. Though near term financials are expected to remain distressed, the sector opportunity justifies a valuation of 2.7x FY17 P/BV to arrive at a target price of 66 with a HOLD recommendation. ICICI Securities Ltd Retail Equity Research

Variance analysis Q2FY16 Q2FY16E Q2FY15 YoY (%) Q1FY16 QoQ (%) Comments Revenue 54.0 96.8 212.2-74.5 107.0-49.5 Revenues were adversely impacted owing to core shipbuilding revenue Cost of material 8.4 21.2 31.5-73.4 19.9-57.9 Purchase of stock in trade -15.2-9.3 11.6-231.0-7.1 112.5 Employee benefit 14.5 17.5 14.1 2.7 17.3-16.4 Other expenses 53.7 71.5 115.2-53.4 87.2-38.4 EBITDA -7.4-4.0 39.8-118.6-10.3-28.2 EBITDA Margin (%) -13.7-4.1 18.8 NA -9.6 NA Depreciation 53.8 34.1 13.4 302.1 53.2 1.2 Interest 117.8 100.5 106.4 10.8 112.3 4.9 Other income 8.9 8.1 4.1 114.0 5.8 52.8 Extra-ordinary gain/loss 0.0 0.0 0.0 0.0 Total Tax 0.0-2.8-7.5-2.8 PAT -170.2-127.7-68.3 NA -167.3 NA Key Metrics Q2FY16 Q2FY15 YoY Q1FY16 QoQ Shipbuilding Revenue 54.0 199.6-72.9 107.0-49.5 Core shipbuilding activity continued to decline Trading Revenue 0.0 12.6 NA 0.0 NA Trading revenues were absent Change in estimates FY16E FY17E ( Crore) Old New % Change Old New % Change Comments Revenue 550.0 428.5-22.1 800.0 535.7-33.0 A softer H1FY16 resulted in a downward revision of estimates EBITDA 116.9 52.5-55.1 210.0 119.2-43.2 EBITDA Margin (%) 21.3 12.3-900 bps 26.3 22.3-400 bps Slower revenues with continued costs to hit margins PAT -285.7-366.9-28.4-160.0-292.5-82.9 EPS ( ) -3.9-5.0-28.4-2.2-4.0-82.9 EPS to be adversely impacted by higher interest expenses Assumptions Parameter FY13 FY14 FY15 FY16E FY17E FY16E FY17E Shipbuilding 1,506 1,797 698 429 536 550 800 Shipbuilding revenue to remain sluggish on the back of a lower order book and subdued new orders Trading 1,080 737 214 0 0 0 0 Discontinuance from the trading business ICICI Securities Ltd Retail Equity Research Page 2

Company Analysis Strategic joint venture, indigenous focus to support PDOECL PDOECL s joint venture (JV) with Mazagaon Dock (MDL) provides scope for the JV to co-bid for the existing order book of MDL, which is upwards of ~$20 billion. Also, PDOECL has formed a strategic partnership with SAAB (part of the Wallenberg Group) to enhance its capability to build and provide maintenance of equipment for the Indian armed forces. All this places PDOECL in a very sweet spot as the government focus shifts to buy & make Indian in the Defence Procurement Policy (DPP). Also, as the government has raised the FDI cap to 49% from the present 26% it opens up an opportunity window of ~$12 billion market size of defence orders over the years. Exhibit 1: Indian navy pipeline Segment Category Indicative Items Qnty Size($Bn) Quatity Size ($bn) Navy Helicopters Advanced Light Helicopters 47 7.2 Naval Utility Helicopters 56 1 Advanced multi role Naval Helicopters 123 6.8 Navalised Aircraft MiG-29K 29 2.25 Fighter Aircrafts for IAC 2 Long Range Maritime Patrol Aircraft - Boeing P8-I 20 2.07 Medium-range Maritime Reconnaissance Aircraft 6 1 Submarines Midget Submarines 5 0.5 Stealth Submarines - Project 75 India (P-75I) 6 8 Warships Survey Training Vessels 4 0.47 Project 17 A Frigates 7 8.18 Landing Platform/dock (LPD) 4 3.5 Survey vessels 6 Off-shore Patrol Vessels 9 Indigenous Aircraft Carriers 2 0.45 ASW Shallow Water Crafts 16 2 Mid-Life Upgrades of the Kirch Class Corvettes 5 Sail Training Ship 1 Others 30-40 mm Gun With EOFCS 116 0.27 Autonomous Underwater Vehicle (AUV) 10 0.01 Portable diver detection sonar (PDDS) systems 78 0.07 Heavy Weight Torpedoes (Surface) 98 0.25 Surface Surveillance Radars 31 0.3 20-30 mm Close In Weapon System 25 0.2 Mobile Missile Coastal Battery 15 0.25 NTDS 12 Offshore engineering, fabrication provide firm footing PDOECL with its dedicated offshore yard infrastructure of 175 m x 16.9 m of both launching and loading platform together with 280 m long fixed and variable tracks is well poised to serve the strong growing offshore segment. With PSUs like ONGC and OIL together with players such as Gail, Cairn and RIL estimated to spend nearly $10-20 billion over the next three to four years, this provides a footing for the offshore segment business in India. Consequently, PDOECL received orders to the tune of $240 million from ONGC for conversion to mobile offshore production unit and maintenance of rigs. Besides, it has also received an order for rig maintenance from global players such as Trans-ocean and Noble. Going ahead, we believe, as there is significant growth in the oil & gas business, PDOECL can be a direct beneficiary of the same. ICICI Securities Ltd Retail Equity Research Page 3

Valuation Key features of acquisition and open offer Reliance Infrastructure together with its wholly-owned subsidiary Reliance Defence Systems Pvt Ltd has decided to acquire 13,00,00,000 equity shares from the promoters of PDOECL at 63/share aggregating to ~18% shareholding in the company with an investment to the tune of 819 crore Reliance Defence Systems, a subsidiary of Reliance Infrastructure, has launched a mandatory open offer to acquire a 26% stake from the public shareholders of the company at 66/share aggregating to 1263 crore In case Reliance Infrastructure is unable to acquire a total shareholding of 25.1%, it will acquire additional shares to the extent of the shortfall from the promoters at 63/share Post the transaction, existing promoters of PDOECL will continue to hold a minority stake in the company, together with two nonexecutive board seats The acquisition would result in a change in management and control of the company Post completion of the transaction, Anil D Ambani, will become the chairman of PDOECL PDOECL, with one of the largest shipyards in the country, is well placed to take advantage of any policy change towards foreign direct investment (FDI) in the defence segment as the company already has a significant presence in the defence sector. The Government of India has approved 49% FDI in defence and is expediting indigenisation of defence procurement. PDOECL is placed at a vantage point for the same owing to its superior infrastructure. FY15 has been a tough year for PDOECL with a decline in revenues and EBITDA generation resulting in a loss at the PAT level. We expect FY16, FY17 to see an improved revenue performance. However, profitability at the net level remains a concern. PDOECL s long term prospects depend on its ability to get defence shipbuilding orders, which would provide visibility to its revenue stream. With Reliance Infra at the helm, we believe PDOECL is better placed than before to capture the humongous opportunity presented by the indigenisation of Indian defence procurement. With the opportunity available for the company we recommend that current shareholders not tender shares in the open offer. Subsequently, we value PDOECL at 2.7x FY17 P/BV to arrive at a target price of 66 with a HOLD recommendation on the stock. Exhibit 2: Valuations Sales Sales EPS EPS PE EV/EBITDA RoNW RoCE ( cr) Growth (%) ( ) Growth (%) (x) (x) (%) (%) FY13 2586.5 258646.8 0.4 27.3 138 15.7 1.5 5.9 FY14 2533.9-2.0 0.0-91.6 1639 14.1 0.1 6.0 FY15 911.5-64.0-5.4 NA -11 108.0-20.5-0.4 FY16E 428.5-53.0-5.0-8.0-12 213.2-17.8-1.4 FY17E 535.7 25.0-4.0-20.3-15 94.2-16.6-1.1 ICICI Securities Ltd Retail Equity Research Page 4

Company snapshot 140 120 100 80 Target Price 66 60 40 20 0 Oct-09 Dec-09 Feb-10 Apr-10 Jun-10 Aug-10 Oct-10 Dec-10 Feb-11 Apr-11 Jun-11 Aug-11 Oct-11 Dec-11 Feb-12 Apr-12 Jun-12 Aug-12 Oct-12 Dec-12 Feb-13 Apr-13 Jun-13 Aug-13 Oct-13 Dec-13 Feb-14 Apr-14 Jun-14 Aug-14 Oct-14 Dec-14 Feb-15 Apr-15 Jun-15 Aug-15 Oct-15 Dec-15 Feb-16 Apr-16 Source: Bloomberg, Company, ICICIdirect.com Research Key events Date Event Jun-10 PM dedicates Pipavav shipyard to nation Sep-11 PDOECL announces JV with Mazgaon Dock Ltd Jun-12 PDOECL plans to enter into a strategic partnership with French defence company DCNS Dec-12 PE firm Valiant Mauritius Partners sells 1.28% stake in PDOECL @ 95.7 Jan-13 PDOECL wins contract from ONGC worth 400 crore May-13 PDOECL wins order worth 595 crore with option to extend value to 1200 crore May-13 SAAB invests 209 crore to acquire 3.33 % stake post investment Jun-13 Wins order for maintenance and dry docking of oil rigs to the tune of 255 crore Jul-13 MDL-Pipavav JV cleared by Defence Ministry of any favouritism Aug-13 PDOECL plans to raise $150 million through London listing Aug-13 PDOECL & L&T consortium win order of $170 million ( 1152 crore) from ONGC Oct-13 Wins order of 14 fast patrol vessels from Coast Guard; order value to the tune of 920 crore Jul-15 Reports Q1FY16 results; second consecutive loss at EBITDA level. Reliance Infrastructure acquires the company Oct-15 Reports Q2FY16 results; reports revenues of 54 crore with loss of 170 crore. Open offer at 66 per share for additional stake Top 10 Shareholders Shareholding Pattern Rank Name Filing Date 39.21 288.65 Change (m) (in %) Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 1 SKIL Infrastructure, Ltd. 30-Sep-15 39.21 288.7 0.0 Promoter 44.5 44.5 42.3 42.2 42.2 2 Infrastructure Leasing & Financial Services, Ltd. 30-Sep-15 10.41 76.6 0.0 FII 2.3 1.4 5.2 4.7 4.8 3 LIC Nomura Mutual Fund Asset Management Company L 30-Sep-15 7.94 58.5 0.0 DII 14.0 13.6 12.4 12.4 12.3 4 Saab AB 30-Sep-15 3.33 24.5 0.0 Others 39.2 40.6 40.1 40.6 40.6 5 Valiant Mauritius Partners, Ltd. 30-Sep-15 3.26 24.0 0.0 6 Grevek Investment & Finance Pvt. Ltd. 30-Sep-15 3.04 22.4 0.0 7 Sembcorp Marine Ltd 30-Sep-15 2.38 17.5 0.0 8 Jhunjhunwala (Rakesh) 31-Dec-14 2.11 15.5 0.0 9 Export Import Bank of India 30-Sep-15 1.77 13.0 0.0 10 Sneha Metals Pvt. Ltd. 30-Sep-15 1.56 11.5 0.0 Source: Reuters, ICICIdirect.com Research Recent Activity Buys Sells Investor name Value Shares Investor name Value Shares Rajasthan Global Securities, Ltd. 9.73m 10.33m Capital World Investors -6.33m -9.93m Religare Enterprises Ltd 9.11m 10.15m Emerging Global Advisors, LLC -0.12m -0.21m Escorts Asset Management Ltd. 0.15m 0.17m UTI Asset Management Co. Ltd. -0.10m -0.16m Van Eck Associates Corporation 0.05m 0.06m Source: Reuters, ICICIdirect.com Research ICICI Securities Ltd Retail Equity Research Page 5

Financial summary Profit and loss statement Crore (Year-end March) FY14 FY15 FY16E FY17E Total operating Income 2,533.9 911.5 428.5 535.7 Growth (%) -2.0-64.0-53.0 25.0 Raw Material Expenses 997.1 280.6 52.5 65.6 Employee Expenses 57.4 64.4 17.1 21.4 Others Expense 853.8 463.5 306.4 329.4 Total Operating Expenditure 1,908.3 808.5 376.0 416.5 EBITDA 625.5 103.0 52.5 119.2 Growth (%) 14.9-83.5-49.0 127.0 Depreciation 166.5 137.8 181.1 214.4 Interest 477.5 486.9 408.9 345.8 Other Income 39.0 31.5 20.8 29.0 PBT 20.6-490.2-516.8-412.0 Exceptional loss/gain 0.0 0.0 0.0 0.0 Total Tax 18.0-91.5-149.9-119.5 PAT 2.6-398.7-366.9-292.5 Growth (%) -91.5 NA NA NA EPS ( ) 0.04-5.4-5.0-4.0 Cash flow statement Crore (Year-end March) FY14 FY15 FY16E FY17E Profit after Tax 2.6-398.7-366.9-292.5 Add: Depreciation 166.5 137.8 181.1 214.4 (Inc)/dec in Current Assets 673.0-720.3-1,617.4 164.4 Inc/(dec) in CL and Provisions 1,720.5-2,500.1-1,074.5 223.3 Others 0.0 0.0 0.0 0.0 CF from operating activities 742.0-2,359.0 37.1-406.2 (Inc)/dec in Investments 284.2 354.0 44.1 39.7 (Inc)/dec in Fixed Assets -829.8-1,342.8-818.9-385.6 Others -242.7 140.5-77.2-137.4 CF from investing activities -788.3-848.3-851.9-483.2 Issue/(Buy back) of Equity 262.4 0.0 0.0 0.0 Inc/(dec) in loan funds 541.2 1,767.0 100.0 100.0 Others -756.9 1,282.3 748.5 851.9 CF from financing activities 384.8 3,049.2 848.5 951.9 Net Cash flow 338.5-158.0 33.6 62.5 Opening Cash 45.9 384.4 226.3 259.9 Closing Cash 384.4 226.3 259.9 322.4 Balance sheet Crore (Year-end March) FY14 FY15 FY16E FY17E Liabilities Equity Capital 736.2 736.2 736.2 736.2 Reserve and Surplus 1,606.8 1,207.0 1,322.9 1,030.4 Total Shareholders funds 2,343.0 1,943.2 2,059.1 1,766.6 Total Debt 1,919.6 5,489.5 5,489.5 5,489.5 Deferred Tax Liability 99.0 6.5 6.5 6.5 Other liabilities & prov 327.5 60.3 60.0 70.0 Total Liabilities 4,689.1 7,499.5 7,615.1 7,332.6 Assets 2,850.8 4,193.6 5,012.5 5,398.0 Gross Block 3,346.4 4,827.0 5,827.0 6,427.0 Less: Acc Depreciation 495.6 633.4 814.5 1,029.0 Net Block 2,850.8 4,193.6 5,012.5 5,398.0 Total Fixed Assets 6,879.4 8,068.0 8,692.8 8,406.7 Inventory 230.9 311.3 82.2 117.4 Debtors 1,395.6 875.7 234.8 322.9 Loans and Advances 395.9 410.2 93.9 117.4 Other Current Assets 796.6 501.6 70.4 88.1 Cash 384.4 226.3 259.9 322.4 Total Current Assets 3,203.3 2,325.0 741.3 968.1 Creditors 316.1 306.5 52.8 66.0 Other Liab & Provisions 1,646.9 1,361.1 440.3 550.3 Short term borrowing 3,430.6 1,225.9 1,325.9 1,425.9 Total Current Liabilities 5,393.6 2,893.5 1,819.0 2,042.3 Net Current Assets -2,190.3-568.5-1,077.7-1,074.1 Application of Funds 4,689.1 7,499.5 7,615.1 7,332.6 Key ratios (Year-end March) FY14 FY15 FY16E FY17E Per share data ( ) EPS 0.04-5.4-5.0-4.0 Cash EPS 2.3-3.5-2.5-1.1 BV 31.8 26.4 28.0 24.0 DPS 0.0 0.0 0.0 0.0 Cash Per Share 2.3-3.5-2.5-1.1 Operating Ratios (%) EBITDA Margin 24.7 11.3 12.3 22.3 PBT / Total Operating income 0.8-53.8-120.6-76.9 PAT Margin 0.1-43.7-85.6-54.6 Inventory days 33.3 124.6 70.0 80.0 Debtor days 201.0 350.7 200.0 220.0 Creditor days 45.5 122.7 45.0 45.0 Return Ratios (%) RoE 0.1-20.5-17.8-16.6 RoCE 6.0-0.4-1.4-1.1 RoIC 6.6-0.4-1.5-1.2 Valuation Ratios (x) P/E 1,639.3 NA NA -15.4 EV / EBITDA 14.4 108.0 213.2 94.2 EV / Net Sales 3.5 12.2 26.1 21.0 Market Cap / Sales 1.7 5.1 10.8 8.7 Price to Book Value 1.9 2.4 2.3 2.6 Solvency Ratios Debt/EBITDA 3.6 53.3 104.6 46.1 Debt / Equity 2.1 3.5 3.3 3.9 Current Ratio 0.6 1.0 1.0 1.0 Quick Ratio 9.4 6.6 12.5 12.9 ICICI Securities Ltd Retail Equity Research Page 6

RATING RATIONALE ICICIdirect.com endeavours to provide objective opinions and recommendations. ICICIdirect.com assigns ratings to its stocks according to their notional target price vs. current market price and then categorises them as Strong Buy, Buy, Hold and Sell. The performance horizon is two years unless specified and the notional target price is defined as the analysts' valuation for a stock. Strong Buy: >15%/20% for large caps/midcaps, respectively, with high conviction; Buy: >10%/15% for large caps/midcaps, respectively; Hold: Up to +/-10%; Sell: -10% or more; Pankaj Pandey Head Research pankaj.pandey@icicisecurities.com ICICIdirect.com Research Desk, ICICI Securities Limited, 1st Floor, Akruti Trade Centre, Road No 7, MIDC, Andheri (East) Mumbai 400 093 research@icicidirect.com ICICI Securities Ltd Retail Equity Research Page 7

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