Arvind Mills: In the ‘jeans’ - Views on News from Equitymaster

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Arvind Mills: In the ‘jeans’

Jan 27, 2005

Performance Summary
Arvind Mills, the country's largest denim manufacturer with a market share of nearly 72% in terms of volumes sold in the domestic market, has announced robust 3QFY05 results. While the topline has grown by a decent 19% YoY, the bottomline has improved by an impressive 89% YoY. Strong denim volumes and improved realizations have helped the company boost performance.

What is the company's business?
Arvind Mills is the country's largest and the world's third-largest denims manufacturer, supplying denims to over 66 countries and renowned brands such as Levi's, Wrangler, Texas and Pepe among others. While denims account for nearly 63% of the company's revenues, shirting and garments account for 18% and 10% of the revenues respectively and the balance from other minor business activities. Among the exports, a large chunk is exported to the US, which accounts for over 30% of the volumes.

(Rs m) 3QFY04 3QFY05 Change 9mFY04 9mFY05 Change
Net sales 3,494 4,140 18.5% 10,871 12,337 13.5%
Expenditure 2,678 3,172 18.4% 8,215 9,563 16.4%
Operating profit (EBDITA) 816 968 18.6% 2,656 2,774 4.4%
EBDITA margin (%) 23.4% 23.4% 24.4% 22.5%
Other income 49 7 -85.7% 102 26 -74.5%
Interest 293 176 -39.9% 921 862 -6.4%
Depreciation 379 370 -2.4% 1,122 1,109 -1.2%
Profit before tax 193 429 122.3% 715 829 15.9%
Tax - 64 - 79
Profit after tax/(loss) 193 365 89.1% 715 750 4.9%
Net profit margin (%) 5.5% 8.8% 6.6% 6.1%
No. of shares (m) 249.0 249.0 249.0 249.0
Diluted earnings per share (Rs)* 3.1 5.9 3.8 4.0
Price to earnings ratio (x) 19.6 28.6
(* annualised)

What has driven performance in 9mFY05?
Volumes led growth: During the 3QFY05, Arvind Mills witnessed a topline growth of nearly 19% YoY on the back of strong volume growth and better realisations. While denim volumes increased from 18.7 million meters (mm) during 3QFY04 to 24.5 mm during the current quarter, signifying a sharp increase of nearly 31%. Realisations improved by nearly 5% YoY during the same period. On the other hand, although shirting volumes declined on a YoY basis, higher realisations made up the volume losses, thereby improving the revenues.

Expenditure
(%) of sales 3QFY04 3QFY05
Consumption of raw materials 38.1% 38.0%
Direct Materials 8.2% 8.7%
Staff cost 8.1% 7.2%
Other expenditure 22.3% 22.7%
Segmental revenues...
Segments (%) of revenues
Denims 63.0%
Shirtings 18.2%
Garments 9.2%
Others 9.6%

Cotton prices limit margins: For the 3QFY05, operating margins have remained the same as compared to the corresponding period last fiscal. Although the company was able to reduce its staff expenditure by nearly 90 basis points, rise in costs of direct materials and other expenditure ensured no major benefits in terms of operating margins.

Lower interest outgo helps bottomline: The bottomline YoY growth of over 89% during 3QFY05 is largely a result of lower interest obligations. The company witnessed a decline of nearly 40% in interest costs on the back of gains witnessed due to currency fluctuations. But for a sharp decline of 86% in other income, the bottomline growth would have been much stronger.

What to expect?
At Rs 115, the stock is trading at a price to earnings multiple of 19.6 times its annualized 3QFY05 earnings. The company has recently switched over to natural gas from the relatively expensive naphtha for captive power consumption. Further, cotton prices, off late, have declined by nearly 20% to 30%. All these factors are likely to result in cost savings for the company and therefore, better operating margins. Also, the company is expanding its garments capacity by 4 million pieces and the benefit is likely to accrue from the next fiscal. Perhaps the major apprehension is the highly leveraged balance sheet, which limits the growth prospects and increases the risk profile of the stock.


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