Adlabs Entertainment- IPO: No

Investors can avoid the initial public offering of theme park operator Adlabs Entertainment. Expensive valuation, limited operating history, high ongoing capital requirement as well as operating risks make the offer unattractive.

The company owns and operates two amusement parks — Imagica and Aquamagica — near Mumbai. A new 287-room hotel is also set to be opened (under the Novotel brand name) in the same location. Revenue is primarily from park entry ticket sales, with food, other retail sales and rentals accounting for a fourth of the revenue.

The price band of ₹221-230 appears expensive, given that Adlabs has not generated net profits. In the first six months of 2014-15, the company’s EBITDA was ₹4.6 crore. Annualising it and boosting it by 50 per cent (assuming higher margin in the busy December quarter), the enterprise value after the listing will be over 170 times EBITDA, at the lower end of the IPO price.

In contrast, Wonderla Holidays, a listed player in this space, trades at around 15 times EV/EBITDA and is also profitable at the net level. Wonderla also has a long operational history — its park in Kochi opened in 2000. Adlabs started operations in November 2013 and hence operational uncertainties are higher.

In the short period however, the company has ramped up its operations well. In spite of ticket prices being at the high-end (compared with other parks in India), Imagica attracted over nine lakh visitors in its first year of operations.

Likewise, Aquamagica which opened in October 2014, had around 91,000 visitors in the first quarter. In comparison, Essel World and Water Kingdom in Mumbai had 10 lakh and eight lakh visitors respectively in 2014.

While the company’s revenue is growing, profitability remains a concern. Revenue in the first six months of 2014-15 was ₹73 crore compared with 2013-14 full year revenue of ₹107 crore. However, EBITDA margins slipped from 6.5 per cent in 2013-14 to 6.2 per cent in the first six months of 2014-15.. This was due to higher share of operational expenses — water, power, security and maintenance. Maintenance costs currently are around 8-9 per cent of revenue. Revenue may get a leg up as the first phase of its hotel becomes operational in the next few months.

Also, revenue from its amusement parks could grow from increasing visitors and their spends, especially in the water park which is still ramping up. Other revenue-sharing joint ventures such as the planned snow park in the same location could also aid sales growth in the next two-three years.

Still, there is likely to be a lag before the company turns profitable. For one, amusement parks require ongoing investments to add new rides to attract visitors; this will increase interest cost. Also, due to high fixed costs and depreciation, breakeven will take at least a couple of years. Additionally, there are business risks in running an amusement park.

So far, only one accident with injury was reported in February 2014. However, any accidents could hit sales and profit.

Due to large capital expenses, Adlabs has racked up high debt. Its total debt was around ₹1,278 crore as of December 2014, mostly in long-term borrowings from banks. Loan servicing expenses (interest rate of around 13 per cent) was ₹54 crore in the first half of 2014-15.

The company plans to utilise the IPO proceeds to repay ₹330 crore of debt. Debt-to-equity ratio is expected to be around one time after the listing. However, in the next two-three years, debt may increase due to planned expansions in new locations such as Hyderabad, leading to higher leverage levels.

The issue opens on March 10 and closes on 12. The company plans to sell up to 20 lakh shares held by the current promoters along with a fresh issue of 183 lakh new shares. The price band is fixed at ₹221-230 per share. Retail investors (those investing less than ₹2 lakh) can get a discount of ₹12 on the issue price.