Dodla Dairy Ltd initial public offer (IPO) opened for subscription on Wednesday and there seems to be a lot of interest in the issue. The dairy company has a vast presence in south India. It owns and operates 13 processing plants located in the states of Andhra Pradesh, Telangana, Tamil Nadu and Karnataka.

Over FY18-FY20, Dodla Dairy’s revenues have grown at a compound annual growth rate (CAGR) of 16%. On the other hand, Ebitda CAGR has been relatively slower at 11.8%. Ebitda is earnings before interest, tax, depreciation and amortization; a key measure of profitability for companies.

Even so, it’s worth noting that profit margins have improved for the nine-month ended December 2020 (9MFY21), helped by price increases. For perspective: Ebitda margin jumped to 14.6% during 9MFY21, representing 802 basis points expansion vis-à-vis fiscal 2020. One basis point is one-hundredth of a percentage point.

While this augurs well, investors should track margin trajectory closely in the days to come. As Nitin Rao, founder of alphaideas.in, an investment blog, said, “Of course, it will be interesting to watch whether the margins sustain. Here, the number one cost for the company is milk prices and accordingly, investors should track the metric closely.

Rao added, “It’s worth noting here that milk procurement in India remains a challenging process. Dodla Dairy’s biggest strength is milk procurement.

For 9MFY21, Dodla Diary’s revenues from sale of milk and dairy-based value-added products (VAPs) constituted around 75% and 25%, respectively, of total revenues. Dairy-based VAPs include ghee, butter, paneer, buttermilk and ice creams.

“In order to grow further and also increase margins, over the last few years we have focused on dairy-based VAPs. We intend to supplement our revenue by increasing the sales of our VAPs and strike a balance between processed milk and VAPs to optimise our product portfolio, said the company.

What about valuations? The company’s earnings per share (EPS) for 9MFY21 stood at 20.91. This works out to an annualised EPS of 27.9 for FY21 and based on this, the price-to-earnings multiple stands at 15.4 times at the upper end of the price band of 428 apiece.

Analysts reckon valuations are not too demanding as such. Arun Kejriwal, founder of Kejriwal Research and Investment Services Pvt. Ltd said, “Valuations based on FY21 annualized EPS look reasonable and investors can expect a listing pop. Plus, Dodla Dairy does not sell its value-added products on a B2B basis primarily. Recall that this was one of the reasons that led to the weak performance of two dairy companies earlier—Prabhat Dairy and Parag Milk Foods.

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