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Welspun India: In investment mode… - Views on News from Equitymaster
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Welspun India: In investment mode…
Aug 2, 2006

Performance summary
Asia's largest manufacturer of terry towels, Welspun India, announced its results for 1QFY07. While on the face of it the bottomline appears to be tempered by the rise in interest and depreciation costs, the steady growth in topline and 60 basis points expansion in operating margins confirm the company’s growth in line with its targets. More importantly, the capacity expansion, foray into new product lines and acquisition of stake in ‘Christy’ is yet to filter into its numbers.

Standalone financials…
(Rs m) 1QFY06 1QFY07 Change
Net sales 1,370 1,989 45.2%
Expenditure 1,168 1,576 35.0%
Operating profit (EBDITA) 202 413 104.3%
EBDITA margin (%) 14.8% 20.8%  
Other income 135 (38)  
Interest 74 112 51.4%
Depreciation 102 144 41.2%
Profit before tax 161 119 -26.1%
Tax 53 43 -18.9%
Profit after tax/(loss) 108 76 -29.6%
Net profit margin (%) 7.9% 3.8%  
No. of shares (m) 71.7 72.6  
Diluted earnings per share (Rs) 6.0 4.2  
Price to earnings ratio (x) 11.0 15.8  

What is the company’s business?
Welspun India is Asia's largest and world’s fifth largest manufacturer of terry towels (accounted for 79% of FY06 revenues). A wide product range, fully integrated capacities and the ability to offer value added products make the company a preferred supplier to major retailers in the EU and the US. Welspun also has marketing licences for the 'Nautica' and 'Tommy Hilfiger' brands and owns the 'Spaces' brand in India. The company's foray into bed linen is a step towards positioning itself as a single-point vendor in home textiles. It is a flagship company of the Welspun Group, with promoters holding a 34% stake. In 1QFY07, Welspun India bought 85% stake in CHT Holdings Limited, the holding company of UK's leading towel brand Christy**.

** Founded in 1851, Christy is the world's oldest towel manufacturer and is the UK's leading towel brand with an annual turnover of £ 35 m (Rs 3 bn). It is UK’s leading producer of branded terry towels and bed linen products. The company supplies to a wide range of retailers in the UK and overseas and is the sole supplier to Wimbledon Tennis Championships. The company employs 464 people.

What has influenced performance in 1QFY07?
Towels – Volume story: Besides the additional capacity with the commissioning of Phase-I of the greenfield capacity at Anjar, a higher capacity utilisation in the towel segment (85% in 1QFY07 against 75% in 1QFY06), has led to Welspun capitalise on higher volumes despite the pressure on realisations. For the towel division, the company has been able to move almost 85% of its supplies on the replenishment mode, which it believes, in conjunction with the strong order book position, will enable sustained sales growth going forward.

Bed linen – Growth driver: The bed linen segment, which accounted for approximately 12% of turnover in FY06, has contributed to 17% of the turnover in 1QFY07 and is fast catching up with the towel segment. The commissioning of Phase–II of the Anjar capacity will also add to the bed linen capacity of the company, nearly doubling it to 77 MMPA (m metres per annum). The decorative bedding segment is also expected to be revenue accretive, as this will fetch the company realisations that will be much higher than that in the bed linen segment currently.

Benign TUF: The Phase-I of the greenfield plant at Anjar costing Rs 5.8 bn was commissioned in FY06, the funds having been sourced though a mix of equity (issued to promoters and Temasek Holding) and debt (Rs 4.5 bn through the TUF route). The debt procured through the Technology Upgradation Fund (TUF) at subsidised interest rates (at a rate of 3% per annum) has been especially benign to the company in the wake of rising interest rates. Also, the withdrawal of TUF due in March 2007, will not affect the project since all funds are fully sanctioned and part disbursed to the company under TUF.

Rationalising costs: The company currently generates power in its captive power plant with the help of furnace oil, the price of which is directly linked to that of crude oil. Thus, to rationalise its power costs, Welspun India has set up a gas-based power plant in Vapi (catering to 40% of its power requirement), for which, it has entered into a gas supply agreement with Gujarat Gas. The gas supply will start coming in from 3QFY07 and subsequently rationalise the company’s power cost. With the gas-based power plant, the power cost will reduce to 2.5 to Rs 3 per unit, against Rs 4.5 per unit currently. For the remaining 60% power requirement, all the companies of Welspun Group will form an SPV, which will promote a lignite based power plant in Anjar.

Forex drag: Welspun is affected by cross currency fluctuations as nearly 90% of the company's production is exported. It also does not have any natural hedge, as the company has no import liabilities. The company has taken a forward cover to the tune of US$ 150 m (locked in at Rs 45.3 per US$) for its forex hedging. It thus had to book a mark to market loss of Rs 99 m in 1QFY07. Going forward, we envisage the forex risk to continue to remain a drag on the company’s bottomline.

Over the years: Although Welspun India has been reasonably steady in terms of its operating and net profit margins over the years, the company has been facing margin pressure over the past couple of quarters due the investments being made in additional capacities. Also, higher capacity, better realisations and enhanced product mix will help the company effectively compete against its peers. We have factored in lower EBIDTA and net profit margins for the next 2 fiscals (with a conservative assumption for capacity utilisation, interest cost and depreciation).

Christy benefits to filter in: Some of the benefits that would accrue to Welspun with the acquisition of Christy are:

  • Access to a premium brand and incorporation of product development skills, which could be extended to other home textile products

  • Access to the UK and European markets

  • Access to the leading retail stores in the UK for Welspun’s product range including towels, bed linen and other home products

  • Opportunity to rationalize Christy’s sourcing requirements and extend the brand to the domestic customers through Welspun’s retail stores.

What to expect?
At the current price of Rs 75, the stock is trading at a price to earnings multiple of 9.5 times our estimated FY08 earnings. Going forward, the company is targeting turnover of Rs 400 m to come from it retailing business (through Spaces and Home Mart outlets) and 35% of its business to be sourced though the branded home textile segment. Keeping in mind the company's strong presence in the home textile industry, global capacities and future growth prospects, Welspun remains our preferred play amongst the mid-tier textile companies.

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