This article provides an in-depth fundamental analysis of National Fittings Ltd (erstwhile Interfit Techno Products Ltd), an Indian manufacturer of piping components.
In order to benefit the maximum from this article, an investor should focus on the process of analysis instead of looking for good or bad aspects of the company. She should learn the interpretation of different types of data and transactions and pay attention to the parts of annual reports etc. used to get the information. This will help her in improving her stock analysis skills.
National Fittings Ltd Research Report by Reader
Reader’s Query:
National Fittings Ltd is an export-oriented company and an ISO 9001 certified manufacturer of quality piping components to various industries covering a range of fittings and ball valves in stainless and carbon steels and grooved couplings and fittings from SG iron castings.
Company Products:
- Grooved pipe fittings
- Screwed pipe fittings
- Valves
As per the annual report for FY2015:
“Company is expanding into other markets and increasing its presence in the domestic market substantially. Present share of sales of 10% in the domestic market will increase to 25% to 30% in the coming years.”
Valuation Analysis of National Fittings Ltd:
- P/E ratio: 10.55
- P/E to Growth ratio (PEG ratio): 0.74
- Earnings Yield (EY): 16.29
- P/B ratio: 3.08
- Price to Sales ratio (P/S ratio): 1.21
- Dividend Yield (DY): 1.33
Read: How to do Valuation Analysis of a Company
- Here PE ratio is slightly more than the checklist. However, all the other ratios are good and come within the checklist criteria and pass the test of valuation analysis. (Final Checklist for Buying Stocks)
Financial Analysis of National Fittings Ltd:
- Sales growth: 24.66
- Profitability(NPM): 11.09%
- Tax payout: For the last three years, it is more than 30%
- Interest coverage: 10.49
- Debt to Equity ratio: 0.32
- Current ratio: 5.18
- Cash flow (CFO): Is Positive from last 7 years
Read: How to do Financial Analysis of a Company
- National Fittings Ltd is growing at a decent sales growth of 24.66% over the last 10 years with a very good net profit margin that left that co. has good financial strength.
- From the year 2013, National Fittings Ltd is regularly paying out tax with more than 30% that glimpse about last three years management quality. Before 2013 co. did not pay tax.
- National Fittings Ltd has a good interest coverage 8 times in recent years that also means that the company has sufficient interest coverage to pay out its interest.
- National Fittings Ltd’s current assets are good (5 times of current liabilities in the recent year) to take care of its current liabilities. That suggests National Fittings Ltd’s strong position.
For more detail refer below tables of financial analysis ratio.
Operating Performance Analysis of National Fittings Ltd:
- National Fittings Ltd is growing at decent sales growth of 24.66% in last 10 years with good NPM of 8 to 10% since 2010. In the year 2013, NPM is 4%, it might be due to tax paid around 60% in the year 2013.
- Inventory turnover ratio is fluctuating from 2010 but positive thing is that National Fittings Ltd is maintaining its level of not below 6. Declining inventory turnover ratio is becoming a major question for a company. I want your view of that.
- Debtors days are also not stable it is fluctuating and in the range of 15 to 20 days.
- Net fixed assets turnover (NFAT) ratio is increasing since 2012 since there is also variation in figures compared to 2010 and 2011.
Overall, the three ratios are fluctuating and doing well in recent years. I want your view on these ratios.
Debt to equity is less than one from the last five year. It means that National Fittings Ltd is maintaining its debt level. That also suggests the company’s financial soundness.
After 2009, it is been continually generating positive cash flow from its operation. In year 2015 CFF is (-2.69) cr. Here, ₹2.00 crore is the repayment of preferential shares of 200,000 units. That means National Fittings Ltd is paying out its debt.
Also Read: 5 Simple Steps to Analyse Operating Performance of Companies
Management Analysis of National Fittings Ltd:
Mr. A. V. Palaniswamy is the managing director and the promoter of National Fittings Ltd with a qualification of BE and more than 40 years of experience.
Salary of the promoter is increasing as an increase in sales but here one negative point is in the year 2013, net profit decreased, but still, the management increased promoter’s salary.
Salary of Promoter:
National Fittings Ltd had 500,000 preference share. Out of these, the company redeemed 200,000 in the financial year 2014 and now it has considered the option of redeeming 300,000 non-convertible non-cumulative redeemable preference shares of ₹300 lacs, which was approved by the board at their meeting on 29.05.2015. This is a positive sign that National Fittings Ltd is reducing its debt.
National Fittings Ltd is providing dividend since 2014, the current dividend payout ratio is 15.09%. National Fittings Ltd is now paying out a dividend every year.
Promoters’ holding is 56.45% and foreign promoter holding is around 9%, thus total promoter holding is 65.55% and the general public is 25.78.
National Fittings has a statutory due pending in high court that summarized in annual report 2014 which you can see below.
By referring annual report 2013 I found that claims against the company do not acknowledge the debt. This makes a question on the company’s management, however co. already paid reduced amount.
Peer Comparison of National Fittings Ltd:
We can see below that National Fittings Ltd is growing at a higher sales growth rate than other peer companies with moderate PE ratio. This makes it different than others. National Fittings Ltd has only 10% of sales in the domestic market.
Many of its peer group companies have a sales growth more than 10%, so it has the distinct advantage of MOAT or not?
Creation of Value for Shareholders from the Profits Retained by the Company:
- National Fittings Ltd has created value of ₹3.96 for every ₹1 of profits retained for investment by it.
Self –Sustainable Growth Rate (SSGR):
Self-sustainable growth rate (SSGR) of National Fittings Ltd is about 25-32%. However, National Fittings Ltd has been growing at about 24% over the last 10 years. Comparison of past sales growth with SSGR would indicate that it could fund its entire growth by its profits.
Please provide your valuable view of National Fittings Ltd.
Thanking You,
Pratik Solanki
Dr Vijay Malik’s Response
Dear Pratik,
Thanks for writing to me! I appreciate the time & effort put in by you in analyzing National Fittings Ltd and sharing your analysis for the benefit of author and readers of www.drvijaymalik.com
Let us first analyse the financial performance of National Fittings Ltd over the last 10 years (FY2006-15).
Financial Analysis of National Fittings Ltd:
National Fittings Ltd has been growing its sales consistently at an excellent pace of about 25% year on year since last 10 years (FY2006-15). It is important to note that this sales growth has been accompanied by improving profitability.
Operating profit margins (OPM) of National Fittings Ltd has been improving from 6-7% in FY2006-07 to about 19-20% in FY2015 and FY2016. Similarly, net profit margins (NPM) have also been improving from a net loss in FY2007 to the NPM of 10-11% in FY2015 and further 14% in FY2016.
Sales growth with improving profitability margins is a good sign for any investment opportunity.
Also Read: How to do Financial Analysis of a Company
National Fittings Ltd has been paying taxes at 33-34% rate in FY2015 and FY2016, which is equal to the standard corporate tax rate in India. Though the tax rate has been fluctuating widely in past, however, now it seems to have stabilized. This is another good sign.
Operating Efficiency Analysis of National Fittings Ltd:
Over the years, National Fittings Ltd has been reflecting improved operating efficiency.
Net fixed assets turnover (NFAT) has been improving from 1.43 in FY2008 to 8.83 in FY2015. Inventory turnover ratio of National Fittings Ltd has improved from 1 in FY2008 to 9 in FY2015. Improving asset and inventory turnover indicate that National Fittings Ltd is able to use its capital more efficiently and generate higher sales from the same level of assets.
Receivables days of National Fittings Ltd have improved from 81 days in FY2008 to 16 days in FY2015. Improvement in receivables days indicates that the company has been able to collect the money from its customers faster, indicating its growing influence in the market.
This seems plausible when seen with the fact that about 90% of sales of National Fittings Ltd are exports, which are mostly backed by a letter of credit (LC). LCs help in the early realization of receivables for the exporters. Improved collection practices lead to lower working capital finance requirements and thereby lower interest costs and improved profitability.
Also Read: 5 Simple Steps to Analyse Operating Performance of Companies
National Fittings Ltd has PAT for the last 10 years (FY2006-15) of ₹18 cr. whereas the CFO over a similar period is ₹17 cr. PAT has nearly been converted into CFO. There does not seem to be much concern on this parameter.
Margin of Safety in the Business of National Fittings Ltd:
i) Self-Sustainable Growth Rate (SSGR):
As rightly mentioned by you, Self-Sustainable Growth Rate (SSGR) of National Fittings Ltd is about 25-30%. As mentioned in the article on Self-Sustainable Growth Rate, SSGR does not factor in working capital changes. However, we can estimate whether funds are being tied up in working capital by comparing cPAT with cCFO.
Also Read: Self Sustainable Growth Rate: a measure of Inherent Growth Potential of a Company
Analysis of SSGR indicates that if National Fittings Ltd can manage its working capital management and operating efficiency properly, then it can grow continuously at about 25-30% growth rate without creating additional debt burden on the balance sheet.
As National Fittings Ltd has been growing at a rate of 25%, it has been able to manage its growth story without leveraging its balance sheet. At March 31, 2015, National Fittings Ltd has short term debt of about ₹4.8 cr. on its books, which consists of export packing credit, letter of credit and demand loan against fixed deposits, which are essentially working capital facilities required for day to day operations of a company.
These findings of SSGR get re-affirmed when an investor analyses the cash flow from operations (CFO) of National Fittings Ltd with its capital expenditure (Capex) requirements over the last 10 years (FY2006-15).
ii) Free Cash Flow Analysis of National Fittings Ltd:
During FY2006-15, National Fittings Ltd realized total CFO of ₹17 cr. and out of it National Fittings Ltd to spend ₹5 cr. into capital expenditure, thereby releasing free cash flow (FCF) of ₹12 cr. as surplus for shareholders.
This data indicates that National Fittings Ltd is a good example of efficient capital utilization. Despite meeting its entire capex requirements, National Fittings was able to generate FCF of ₹12 cr. out of which it distributed ₹2 cr. as dividend to shareholders (excluding dividend distribution tax).
The peer comparison data provided by you, also indicates that National Fittings Ltd is better placed than many of its peers.
Read: 3 Simple Ways to Assess “Margin of Safety”: The Cornerstone of Stock Investing
The ability of National Fittings Ltd to grow its sales with Ltd capex from its CFO and generating a good amount of free cash flow (FCF) indicates that the company has a good advantageous business model.
The investors would agree that a company which generates a good amount of free cash flow (FCF) post-meeting entire capex requirement from its operating cash flow (CFO) would not need any debt or equity dilution. The same is true for National Fittings Ltd; it is almost a debt-free company with no history of equity raising over the last 10 years. All the debt of National Fittings Ltd is short term working capital debt.
In FY2015 annual report, National Fittings Ltd has sought shareholders’ permission to borrow up to ₹20 cr. It seems that the company is planning to go for capital expenditure in near future.
With good sales performance and improved profitability margins, National Fittings Ltd has started paying a dividend to its shareholders since the FY2014. Company has been increasing its dividend payout with increasing profits. In FY2016, National Fittings Ltd has declared dividends of ₹3 per share against ₹1 per share in each of FY2014 and FY2015. It amounts to sharing the fruits of growth with shareholders. This is a good sign in any investment opportunity.
Share market too seems to have recognized it. The market capitalization of the National Fittings Ltd has increased by ₹70 cr. against retained earnings of ₹16 cr. over last 10 years (FY2006-15). Management has created a value of ₹4.36 for the shareholders from every ₹1 of earnings retained & not distributed to shareholders.
Margin of Safety in the market price of National Fittings Ltd:
National Fittings Ltd is currently available at a P/E ratio of about 9.9, which offers some margin of safety in the purchase price, as described by Benjamin Graham in his book The Intelligent Investor.
However, we recommend that an investor may read the following articles to assess the PE ratio to be paid for any stock, takes into account the strength of the business model of the company as well. The strength in the business model of any company is measured by way of its self-sustainable growth rate and the free cash flow generating the ability of the company.
In the absence of any strength in the business model of the company, a low PE ratio of the company’s stock may be signs of a value trap where instead of being a bargain; the low valuation of the stock price may represent the poor business dynamics of the company.
- 3 Principles to Decide the Ideal P/E Ratio of a Stock for Value Investors
- How to Earn High Returns at Low Risk – Invest in Low P/E Stocks
- Hidden Risk of Investing in High P/E Stocks
I have been advising readers and investors that they should analyse the management of any company in great depth before they take any final investment decision about any company. Management assessment is critical as in the past, investors have noticed that even if a company has very good business, however, if the management is not minority shareholders friendly, then it is highly unlikely that retail shareholders would be able to benefit from the growth of the investee company.
The case of Gujarat Automotive Gears Ltd discussed in the following article is very pertinent for investors:
Read: Why Management Assessment is the Most Critical Factor in Stock Investing?
I appreciate that you have analysed multiple aspects of management assessment including the salary of promoters and dividend history.
- The declared salary of promoters as per the annual report of FY2015, which is about ₹200,000 per month for FY2016 seems reasonable when seen in the light of the net profits of the company being about ₹7.4 cr. in FY2016
- National Fittings Ltd has been paying dividend out of its free cash flows, which is another good sign for any investment opportunity.
Additional aspects and annual report analysis of National Fittings Ltd:
However, there are certain concerns, which get highlighted when an investor reads the annual report for FY2015 for National Fittings Ltd:
A) Composition of board of directors:
As per the FY2015 annual report, National Fittings Ltd has 4 directors:
The report mentions that out of total 4 directors, National Fittings Ltd has 2 independent directors, including Mr. M. Loganathan.
However, when we see the details of directorship of different promoter entities, associate entities and related entities of National Fittings Ltd (at corporate database Zauba Corp.), we see that Mr. M. Loganathan is a director in almost all of these entities. It is to be noted that these associate entities are private Ltd companies and do not require independent directors on their board.
1. Holding company of National Fittings Ltd: Interfeit India Ltd:
2. Entities where promoter & MD Mr. Palaniswamy is a director:
i. Merit Industries Ltd:
ii. Sema Impex Private Ltd:
iii. Haitima India Private Ltd:
The directorship details of the above companies, as referred from the corporate database: Zauba Corp. indicate that Mr. Loganathan shares a very deep relationship with promoters of National Fittings Ltd. Mr. Loganathan is a director on almost all the private entities of promoters of National Fittings Ltd, which as per law do not require independent directors on board.
Therefore, it seems that even though Mr. Loganathan might be fulfilling all the legal requirements for being classified as an independent director as per Companies Act 2013, he is very close to promoters and might not be a true independent director in spirit.
The woman director, Mrs. Panath Anitha is an old-time employee of National Fittings Ltd. As per the annual report of FY2015, she joined National Fittings Ltd 20 years back and has been working with the company ever since.
This analysis indicates that the board composition of National Fittings Ltd might be meeting all the criteria as per Companies Act 2013, however, in spirit, it seems that at least 3 out of 4 directors (75%) are very close to the promoter group.
B) Related party transactions:
In FY2015 annual report, National Fittings Ltd, has disclosed that it has entered into multiple transactions related to sale/purchase of good and leasing of property with the promoter owned entities:
Read: Understanding the Annual Report of a Company
National Fittings Ltd has indicated in its risk management policy in FY2015 annual report that it has entered into these contracts with promoter entities to ensure supply of components at competitive prices:
The directorship pattern of these promoter owned companies shared above, indicates that the people who are running these related entities are the same who are in the board of directors of National Fittings Ltd. It means that these promoter owned entities do not have anything new in terms of skill sets than what is already present with National Fittings Ltd.
This essentially means that the business of sourcing, which is outsourced to holding company Interfit India Ltd, could have been avoided. Moreover, the profits of Interfit India Ltd, if any, are effective, transfer of funds from National Fittings Ltd to Interfit India Ltd.
The value of raw material purchased by National Fittings Ltd from Interfit India Ltd is ₹19.86 cr. If we consider that Interfit India Ltd would have made a margin of 10% on this transaction, then the cost of this transaction, which is borne by shareholders of National Fittings Ltd is about ₹2 cr. (10% of ₹19.86 cr.).
C) Loans & advances to related parties:
FY2015 annual report of National Fittings Ltd discloses that it has given advances of about ₹2.7 cr. to its related parties:
Also, it needs to be noted that in the related party section of the annual report, National Fittings Ltd has not shown any interest amount receivables from these related parties. It means that these loans & advances, which are given by National Fittings Ltd to these entities are interest-free in nature.
Interest-free advances is another mean of transferring economic benefit from the shareholders of National Fittings Ltd to other related parties at the cost of minority shareholders.
You may read more about the role of related party transactions in the following article:
Read: Steps to Assess Management Quality before Buying Stocks (A)
The statutory dues of ₹2.84 lac, which is disputed by the company and the case is pending at High Court, is a normal finding that investors would find in many companies. It is quite common that companies and the income tax assessing officers differ in their assessment of tax liability and such cases are escalated to higher forums.
In any situation, the amount of dispute, ₹2.84 lac, is a small amount, which the company has already paid under protest. Therefore, it seems that this dispute might not have any incremental monetary impact on the company.
Analysis Summary
Overall, National Fittings Ltd appears to be a company growing at a fast pace, with improving profitability margins & operating efficiency. It has been able to meet its capex requirements from its cash flow from operations and is able to generate free cash flows. National Fittings Ltd has a very healthy SSGR, which can ensure that it can keep on growing without needing debt to fund its growth if it can manage its working capital efficiently.
The Company’s management, which seems shareholder-friendly at the first instance, has certain issues related to the composition of independent oversight on management, business transactions with and loans & advances to the promoter entities. An investor should pay attention to these management issues and convince herself about the shareholder friendliness of the company management.
These are my views about National Fittings Ltd. However, you should do your own analysis before making any investment-related decision about National Fittings Ltd.
You may use the following steps to analyse the company: “How to do Detailed Analysis of a Company“
Additionally, the investor should keep track of the future performance of the company for signs of improvement or worsening as part of their monitoring exercise. She may use the steps explained in the following article for monitoring stocks in her portfolio.
Also Read: How to Monitor Stocks in your Portfolio
Hope it helps!
Regards,
P.S.
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Disclaimer
Registration status with SEBI:
I am registered with SEBI as a research analyst.
Details of financial interest in the Subject Company:
I do not own stocks of the companies mentioned above in my portfolio at the date of writing this article.
