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Titan: The clock ticks on - Views on News from Equitymaster
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Titan: The clock ticks on
Oct 19, 2006

Performance summary
Titan announced its second quarter results yesterday. While the company posted robust growth at the topline level, margins were significantly lower during the quarter, resulting in a marginal decline in operating profits. While the company was able to retire debts from the rights issue proceeds, profit before tax declined YoY in 2QFY07. But for lower provision for doubtful debts during the quarter, net profits would have declined as well.

(Rs m) 2QFY06 2QFY07 Change 1HFY06 1HFY07 Change
Net sales 3,539 5,235 47.9% 6,468 9,645 49.1%
Expenditure 2,963 4,664 57.4% 5,714 8,884 55.5%
Operating profit (EBDITA) 576 571 -0.9% 754 761 1.0%
EBDITA margin (%) 16.3% 10.9%   11.7% 7.9%  
Other income 6 5 -10.2% 11 19 79.6%
Interest 60 43 -27.9% 118 92 -21.9%
Depreciation & amortisation 48 66 37.5% 96 115 19.1%
Profit before tax 474 468 -1.4% 551 574 4.2%
Extraordinary expenses (178) (46) -74.3% (228) (100) -56.2%
Tax 81 100 24.1% 57 112 97.0%
Profit after tax 216 322 48.9% 266 363 36.1%
Net profit margin (%) 6.1% 6.1%   4.1% 3.8%  
No. of shares (m)* 42.3 44.4   42.3 44.4  
Diluted earnings per share (Rs)**         19.0  
P/E (x)         42.4  
(*post rights issue capital base, **trailing twelve month earnings)

What is the company's business?
Titan is the market leader in the organised watch (46% of FY06 sales) and jewellery (54% of FY06 sales) segments. Watches account for 73% of overall PBIT with the rest being accounted for by the jewellery division. The company also has presence in the precision engineering segment where it plans to leverage on its engineering expertise (revenues are a part of the watches division). After expanding rapidly in the international markets, Titan has scaled down its presence there and is now focusing on building the export business in a gradual manner (particularly in the Middle East).

What has driven performance in 1QFY07?
Jewellery drives topline growth: As is evident from the table below, the jewellery division has outpaced the time products division in absolute terms, thus increasing its contribution to the overall revenues from 51% in 1HFY06 to 59% in 1HFY07. From around 14% of sales in FY98, the jewellery division has indeed come a long way. The company has attributed a part of the increase in sales to higher gold prices during the quarter (gold prices were US$ 600 per ounce in September 2006, higher by 27% YoY). While the time products division also recorded commendable volume growth, usually, the second half of the fiscal year is the peak period, as it coincides with the festive and marriage season in India.

Segmental break-upů
(Rs m) 2QFY06 2QFY07 Change 1HFY06 1HFY07 Change
Revenues - Time products 1,850 2,249 21.5% 3,111 3,735 20.1%
PBIT margin 24.0% 13.4%   16.5% 11.5%  
Revenues - Jewellery 1,727 2,969 71.9% 3,388 5,852 72.7%
PBIT margin 5.7% 7.4%   5.6% 4.7%  
Other businesses* 83 170 103.2% 167 305 82.4%
PBIT margin -10.4% -7.8%   -21.9% -14.4%  
Overall EBIT margin 14.6% 9.4%   10.0% 6.7%  
(*includes precision engineering, licensed products and accessories)

Margins take a hit: The jewellery division has witnessed an expansion in PBIT margins in 2QFY07, which could be attributed to favorable gold prices. For the first half, however, margins are lower and in the long-term, we expect the jewellery retailing margins to remain in the vicinity of 5% to 5.5%. In fact, margins could remain weak in the medium-term before expanding, given the company's plan to launch a mass market jewellery retailing initiative in the future. As far as the time products division is concerned, there has been a sharp fall. While the exact reason for a 24% PBIT margin in 2QFY06 is not known, part of the decline in margins could be attributed to higher selling and promotional expenses (in light of new product launches like 'Xyls'). As far as the 'others' were concerned, loss at the PBIT level was lower in 2QFY07, in line with the ramp-up of the precision engineering initiative. Since many facilities for this initiative are shared, as this division grows in size and scale, we expect it to have a positive impact on the overall margins in the long-term.

Lower interest costs, lower write-off: Interest charges in 2QFY07 and 1HFY07 are lower, as the company retires its existing high-costs loans from the rights issue proceeds. Interest coverage, which used to be in the range of 1.4 times in FY03 owing to significantly high working capital needs, has improved steadily and was over 6 times in FY06. We expect this to improve further, thus boosting net margins. While this was the positive side, the decline in operating margins meant that PBT grew at a slower pace of 4% YoY in 1HFY07. Excluding VRS-related expenses and write-off of bad debts from both the half year financials, net profit in 1HFY07 was down by over 6% YoY. But we expect this to be an aberration and therefore, do not foresee any need to downgrade our earnings estimates now.

What to expect?
At Rs 805, the stock is currently trading at a price to earnings multiple of 19.7 times our estimated FY08 earnings, which is expensive. However, our estimates do not include revenues from the mass market jewellery initiative. That said, we believe that the risk-reward equation at current levels is skewed towards risks. We had recommended a 'Sell' on the stock at Rs 791 in December 2005 and we maintain this view.

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