KDDL Vs Ethos: Is the Valuation Gap Justified? 

A few weeks ago, I shared in my video a potential arbitrage opportunity between Balaji Amines and Alkyl Amines. You could access the video here.

In today's video, I want to talk about another anomaly I have come across in case of KDDL and its listed subsidiary Ethos Ltd. Bur before I come to that, let me share a bit about these two companies.

KDDL, incorporated in 1983, is a leading manufacturer of watch components like watch dials and watch hands . The company has established relationships with leading luxury and premium global brands including Swiss brands. In 2019, it acquired Estima - a watch hand factory based in Switzerland to expand presence in mid priced segment European brands as well,

Apart from making watch dials, hands and other watch components, KDDL specializes in precision engineering and caters to different industries such as electronics, EVs, aerospace, defense, auto, consumer durables, solar industry segments ...in Indian, Europe and US markets.

So basically, the standalone manufacturing business of KDDL comprises of 2 main segments - watch components which is around 74% of revenue, and precision stamping and tooling business around 22% of revenue. Around 5% of standalone revenue comes from ornamental packaging. 61% of standalone or manufacturing segment revenues come from exports.

The growth in the manufacturing segment will depend on growth in Swiss and luxury watch market, and the rise of HNIs and consumerist trends. In FY23, the standalone or manufacturing revenue came in at Rs 305 crore, and was up 40% YoY. The operating profit or EBITDA margin for KDDL stood at 23.2%, with EBITDA growth of 71.2% YoY in FY23,

The management seems positive about growth trends. To capitalize on it, KDDL is expanding its dial factory in Punjab, which will enhance the unit's capacity 5 lac pieces per annum and will cater to exports to the medium-high watch segment of Swiss Watches. The capex for this project is estimated at Rs 16 crores, to be executed in phases over a two-year period (in FY23 and FY24). It is also setting up a new plant around Bangalore for manufacturing high quality steel bracelets with capacity of one lac units per annum which will cater to mid and high end Swiss and European watches. This estimated capex for this project is Rs 25 crore to be executed over FY23 and FY24. So, this was about its standalone business.

Now KDDL is also into luxury watch retailing through its subsidiary Ethos, one of the largest organised luxury watch retailing company in the country. ETHOS was set up in 2003 was listed in the stock market in June 2022. Its IPO offer price was set at Rs 878 per share.

As of May 2023, ETHOS operates from 56 stores spread across 22 cities in India and sells over 60 brands. Some of these brands are exclusive to Ethos, accounting for 27% of revenue in FY23.

Ethos has also entered retailing of certified pre-owned luxury watches since Fiscal 2019.

Pre-owned watch industry is already 25% of new watch segment industry and is expected to be 50% of it. It allows first time watch enthusiasts an entry into luxury segment. Ethos has first mover advantage here and has a pan India sourcing platform with restoration and warranty facilities. Here, the company after basic checks to avoid dealing in fake old watches, refurbishes and sells them, while earning a margin over them. For Ethos, it is a relatively new effort and comprised 6% of its revenues, but up 61% YoY.

The Indian watch market is valued at Rs 13,500 crore. Of this, valuewise, the segments that combines the premium, luxury and bridge to luxury segment watches, accounts for 49%. And it is also one of the fastest growing segments in the watch segment.

The vision for ETHOS is to enter more segments apart from premium watches. Apart from watches, it is also signing up with luxury brands in the luggage and jewellery segment.

All in all, both KDDL's standalone business and ETHOS growth prospects look decent in the near term. Demand prospects for both entities are directly proportional to growing network of HNIs. Despite the macro uncertainties, luxury segment is thriving. In fact, for Ethos, the management aims to open 40 more stores over next 2 years has shared a growth guidance of 25%-30%.

Now, coming to the anomaly...

As of March 2023, KDDL Ltd has a majority stake of 51.31% in Ethos. Through its wholly owned subsidiary, MDL, KDDL owns another 9.76%. As such, total stake of KDDL in Ethos is 61.07%

As per marketcap of Rs 3552 crore for Ethos on July 7, the value of KDDL's 61.07% stake in Ethos comes to Rs 2169 crores.

The marketcap of KDDL is Rs 1843 crores, almost 14% lower than the market value of its stake in Ethos.

If we take Ethos valuation as a reference point or benchmark, even post a holding discount of 20%, the standalone business of KDDL seems to be available at a bargain price.

Now I do understand the concept of holding company discount.

But do note that KDDL is not just a holding company, but a parent in its own right.

As I shared in the beginning, it's a growing manufacturing company with a standalone revenue of Rs 305 crore and a core EBITDA of Rs 71 crore. For ETHOS, the revenue and EBITDA stand at Rs 789 crore and Rs 114 crore respectively.

Now this does not mean a Buy or Sell view on any of these stocks. However, I believe the valuation gap Is not justified deserves further exploration. Let me know what you think in the comments section.

With this I have come to the end of the video. Do press the like and share button if you found the video useful.

Thank you for watching.

Goodbye