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Eastern Silk: Envisioning growth
Oct 11, 2006

Performance summary
Continuing to outperform most other textile players in its league, Eastern Silk Industries, the second largest exporter of silk garments and fabrics from the country, registered enthusing numbers for the second quarter and half year ended September 2006. In both the periods under review, backward and forward integration, new capacities, better realisations and a change in product mix have helped the company improve its operating as well as net profit margins by 400 basis points each. More importantly, lower tax incidence and insulation from foreign exchange risks have augured well for the company’s bottomline.

Standalone financials…
(Rs m) 2QFY06 2QFY07 Change 1HFY06 1HFY07 Change
Net sales 929 1,166 25.5% 1,796 2,296 27.9%
Expenditure 772 923 19.5% 1,516 1,850 22.0%
Operating profit (EBIDTA) 157 243 55.1% 279 446 59.7%
EBIDTA margin (%) 16.9% 20.8%   15.6% 19.4%  
Other income 4 12 186.1% 19 34 80.3%
Interest 32 51 58.5% 63 88 39.1%
Depreciation 17 21 22.4% 34 52 52.2%
Profit before tax 112 183 64.0% 201 341 69.3%
Tax 8 21 180.0% 14 35 159.3%
Profit after tax/(loss) 104 162 55.7% 188 306 62.9%
Net profit margin (%) 11.2% 13.9%   10.4% 13.3%  
No. of shares (m) 7.2 15.8   7.2 15.8  
Diluted earnings per share (Rs) 58.2 41.0   52.1 38.7  
Price to earnings ratio (x)         6.9  

Company background
Eastern Silk Industries, established in 1946, is one of the leading exporters of silk fabrics from India and enjoys nearly 30% share of the organised silk market. It is present across the entire value chain from yarn to basic and design fabrics to embroidered fabrics to made-ups. It caters to the specialised requirements of fashion labels (for garments and accessories) and furnishing companies. The company garners 70% of its revenues from exports, of which consumption in the US and Europe account for about two-third of its export despatches. The company has realigned its portfolio mix in favour of larger volume furnishing fabrics (75% of revenues in FY06) as compared to small volume fashion apparel fabrics. It has also embarked on various initiatives such as capacity expansion, forward integration, inorganic growth and greater market reach so as to align its margins with that of the market leader (Himatsingka Seide).

What has influenced performance in 1HFY07?
It’s value over volume: Indian silk exports are expected to grow from US$ 750 m in FY06 to US$ 1.5 bn by 2010 (CAGR of 17%). This is expected to be driven by higher demand for furnishing fabrics, made-ups and garments. Players like Eastern Silk that have the capability to deliver customised as well as variable volumes are well positioned to leverage on the volume growth. However, rather than relying on the same, the company is attempting to scale up on the value chain so as to enhance its realisations. The company has moved up the pyramid from segments such as handloom fabrics (realization US$ 5 per metre), powerloom fabrics (US$ 8 per metre) and embroidered fabrics (US$ 12 per metre) to made-ups (US$ 21). The goal is to increase the average realisation from current US$ 10 per metre to US$ 18 per metre by FY08. This volume-value chain play will significantly increase profitability of the company. Besides, to provide a further impetus to the volume and value growth, the company is shifting its product mix from fabrics to made-ups. The sales contribution from made-ups is expected to increase from 9% in FY06 to 20% in FY08.

Tiding over cost pressures: Although the fact that China remains Eastern Silk’s largest raw material source (nearly 80%), the fact that the company has entered into an associated joint venture in China wherein the latter is obligated to supply about 120 MT per annum to the company, is a comforting factor. Last year, while there was an increase in the raw material cost (to US$ 42 a kilo), the company was able to pass on most of it. The same has now corrected to US$ 30 a kilo. However, the company has retained its pricing policy to counter any further hardening in prices.

Capex benefits yet to filter in: Eastern Silk is expanding fabric capacity and also setting up facility for made-ups (1,500 pieces a day), which will use almost the entire expanded fabric capacity. This will get commissioned in 1QFY08 and the benefits of the same will filter into margins.

Diversified customer base: The company has a wide distribution reach and longstanding relationship with over 225 international clients (over 35 clients having a business relationship across three decades). More than 75% of sales are from customers who have been with the company for over 5 years. The US and Europe contribute about 38% and 27% respectively of its target market and the balance goes to Australia, New Zealand and Middle East.

Sustainability issues: Eastern Silk garners 70% of its revenues from exports, of which consumption in the US and Europe account for about two-third of its export despatches. With the signs of slowdown in the US and European economies, the risk of lower demand from these markets going forward looms large. An oversupply to these markets may also impact the company’s realisations.

What to expect?
At the current price of Rs 265, the stock is trading at an attractive valuation of 7.4 times our estimated FY08 earnings. Higher capacity in fabrics and made-ups, better realisations and enhanced product mix position Eastern Silk very favourably to compete against its peers like Himatsingka Seide that are witnessing margin suppression and lower incremental growth. The company’s targets of scaling up the average realisation per unit from US$ 10 per metre currently to US$ 18 per metre and doubling of turnover to Rs 7.5 bn by FY08 certainly makes it worth watching out for in the longer term. Nonetheless, as mentioned earlier, an economic slowdown in the major markets and the resultant pressure on realisations cannot be ignored.

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