Solid growth prospects, but aggressive pricing
Prime Focus (PF) is one of India's techno-creative leading end-to-end post-production and visual effects services house. The company offers a comprehensive spectrum of services ranging from visual effects, digital film lab (digital intermediate, high-resolution film scanning and film recording), telecine, editing, and motion control to High Definition (HD) production. Currently, it holds 85% of all films undergoing process. PF caters to the commercials, features film and television segments.
Adlabs Films is a Strategic Partner, holding 482,000 shares (3.8% to 3.9% of the post equity capital) of Rs 10 each of PF. Incidentally the effective cost of acquisition for Adlabs Films was Rs 96.80 per share. Their relationship extends into business alliance agreement wherein the terms give PF a non-transferable, non-exclusive right and license to use the Name/Brand of Adlabs Films in consideration of royalty of Rs 12,80,000/- per annum.
PF operates at Santacruz, Mumbai, Royal Palms, Goregaon and Raghuvanshi Mills, Lower Parel, Adlabs premises at Goregaon, Mumbai & Vijaya Labs, Chennai. Most of the premises are owned by the company, some by its directors and couple of them by Adlabs. The company employs 273 personnel with 141 creative staff & 132 non-creative staff.
PF has acquired 55% of the share capital of VTR Plc, listed on the London Stock Exchange, totaling to 13,491,561 ordinary shares of 5 pence @ 35 pence per ordinary shares, amounting to a purchase price of GBP 4.7 million with GBP 4.2 million in cash & GBP 0.50 million in equipment. Currently, its shares are trading at 28.5 pence in London Stock Exchange, which is at about 19% discount to the PF's purchase price. VTR Plc provides services to the media industry with 20 years of post-production experience and is involved in post-production and graphic design for broadcast, commercials and promos sectors. The main focus on the acquisition is to enter in the UK market, London a key advertising market.
The Issue proceeds are to be utilized to finance the following: -
- domestic expansion (service commencement April 2007)
- acquire existing studio in Los Angeles, the main business center for film-based production (service commencement April 2007)
- London studio (service commencement April 2007)
- set up studio in Hyderabad to tap south market (service commencement September 2006)
- fund long term working capital
- set up studio in Dubai (service commencement July 2007)
- issue expenses.
Strengths
- PF is the market leader in the post-production visual effects, especially for films, except in the Southern Region. Now the company also plans to enter the Southern region market as well, by setting up a studio in Hyderabad.
- The Indian Entertainment Industry stands at Rs 20,000 crore currently and is expected to grow at the rate of 18% per annum. The average budget for postproduction and visual effects is expected to be 15-25%. PF which provides a wide range of post production and visual effect services under one roof will be able to secure a sizeable piece of the pie with only 2-3 players offering such services under one roof.
- Setting up shop in Los Angeles, London & Dubai will enable the company to explore the international markets as also to explore the possibilities of outsourcing of services.
Weakness
- The collection period for PF is 90 days that gets stretched to 120 days that in turn leads to high receivables. Bad debt write off accounted for Rs 1.13 crore (5.61% of sales) as on March 31, 2004, Rs 0.89 crore (2.85% of sales) as on March 31, 2005 and Rs 0.84 crore (2.87% of sales) as on December 31, 2005. However, bad debts totaling to Rs 0.63 crore were recovered during the period ended December 31, 2005.
- On a consolidated basis, VTR Plc (subsidiary of PF), reported 18% fall in turnover to GBP 9.59 million in the six months ended February 2006. During this period, the performance deteriorated and the company reported loss after tax of GBP 0.52 million compared to a profit to GBP 0.30 million in corresponding previous period. The consolidated net worth of the company stood at GBP 4.66 million (GBP 6.15 million corresponding previous period).
- PF has to report consolidated numbers from the current fiscal. The losses of VTR Plc will eat into the profits of the stand-alone entity. The net profit for the nine months ended Dec'05 of PF is Rs 11.04 crore, while the net loss of VTR Plc for the six months ended Feb'06 is Rs 4.03 crore! Hence, much depends on the ability of PF to quickly turnaround VTR Plc and benefit from synergy in operations, which it believes to be immense.
- The mega expansion plans slated by the company will start realizing gains only in 2007-08 since the time frame for commencement of services in all location except the Hyderabad studio is proposed to be April 2007.
Valuation
The nine months annualized EPS of (stand alone) PF is Rs 10.43 / 10.22, which discounts the offer price by 48 times at the higher end and by 44 times at lower end. There is no other listed player for comparison, the biggest unlisted player being Prasad Studio. However, the Entertainment Industry PE taken as a basket is 54.3, but this again is not comparable taking into account the services rendered and the size of the company, which is at the moment mid-sized. Also, ballooning losses of VTR Plc will bring down the consolidated EPS.
The year end for both VTR and PF are different, and they have disclosed unaudited results for different periods, with the former having disclosed results for the six months ended February 2006 while the latter has disclosed the results for the nine months ended December 2005. Assuming steady stream of revenues and profits, based on the latest available financials of both the companies, we find that the consolidated P/E to be in the range of 65 to 74 times (depending on the offer price) the annualised consolidated earnings, which appears to be on a higher side.
On the positive side, the company has a basket of services covering the entire range of post-production and visual effects, and claims to be a market leader in India, except in South. With entertainment sector set to witness accelerated pace of growth, by virtue of its leadership and expansions, PF is ideally placed to optimally capitalise on the growth. But it is equally critical for the company to quickly turnaround VTR Plc and derive operational and business synergies therefrom, lest it's consolidated profits will not reveal its operational prowess. In this context, the offer price in the range of Rs 450 to 500 per share, appears stiff