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Arvind Ltd: Volumes and costs play spoilsport - Views on News from Equitymaster
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Arvind Ltd: Volumes and costs play spoilsport
Nov 4, 2008

Performance summary
  • Topline grows by a tepid 7% YoY in 1HFY09 despite improved realisations across all businesses. Fabric business (54% of sales) continues to remain under stress.

  • EBIDTA margins contract from 11% in 1HFY08 to 8% in 1HFY09 due to cost pressure; higher cotton and power costs to exert pressure on profitability in the coming quarters.

  • Net margins (excluding the extraordinary forex loss) slips from 1.6% in 1HFY08 to 0.8% in 1HFY09.

  • The company had 23% of its borrowings in foreign currency at the end of September 2008.

  • Growth in other income primarily due to sale of land.



Standalone financials

(Rs m) 2QFY08 2QFY09 Change 1HFY08 1HFY09 Change
Net sales 5,474 5,809 6.1% 10,422 11,179 7.3%
Expenditure 4,855 5,345 10.1% 9,237 10,250 11.0%
Operating profit (EBDITA) 619 464 -25.0% 1,185 929 -21.6%
EBDITA margin (%) 11.3% 8.0% 11.4% 8.3%
Other income 180 534 196.7% 387 754 94.8%
Interest 337 663 96.7% 693 995 43.6%
Depreciation 350 293 -16.3% 705 587 -16.7%
Profit before tax 112 42 -62.5% 174 101 -42.0%
Extraordinary items - (21) - (37)
Tax 7 6 -17.1% 11 8 -23.6%
Profit after tax/(loss) 105 15 -85.5% 163 56 -65.9%
Net profit margin (%) 1.9% 0.3% 1.6% 0.5%
No. of shares (m) 209.4 218.9
Diluted earnings per share (Rs)** 0.5
Price to earnings ratio (x) 37.8
(*On a trailing 12-month basis)

What has driven performance in 2QFY09?
  • In spite of better realisations derived by the company across all businesses, poor offtake of volumes, productivity losses due to shortage of energy and manpower and high cotton costs continued to depress the earnings growth of Arvind Ltd.

  • Denim fabric, which continues to be the mainstay in Arvindís business, showed very little signs of improvement in volume off-take although the company managed to retain the momentum in realisations (improved from Rs 102 per metre in 2QFY08 to Rs 114 per metre in 2QFY09). On the volumes front, off-take was lower by 13.1% YoY for the quarter. The shirting division, which is a supplier to the companyís garmenting arm, also did not disappoint in realisations although volumes got impacted due to the slowdown in the garmenting business itself.

  • Arvind has not yet taken any call on relocating its 20 mm per annum denim unit at Khatrej (that has been shut down). The company intends to focus only on the premium and mid premium product segments and for regular market is exploring possibilities of moving manufacturing capacities to logical locations.

    Fabrics

    1HFY08 1HFY09 Change
    Denim
    Volume (mm) 20.1 17.5 -13.1%
    Avg Price (Rs/mt) 102 114 11.8%
    Shirting
    Volume (mm) 5.9 5.6 -4.8%
    Avg Price (Rs/mt) 121 133 9.9%
    mm-million metres; mt-metre

  • Arvindís garmenting business seems to be doing well in the shirts and knits categories while the jeans category had a record performance in volume terms. The profitability of the business was, however, impacted by higher air-freight and shortage of staff.

  • While volumes in the branded garment space are not very enthusing, the company has not compromised on the realisations on the same, seeking its positioning in the premium category. Arvind is targeting a capacity of 12 m pieces in the garment business by FY09 and would follow that up with an addition of 50% of the capacity over the next 3 fiscals. We have been conservative in our future growth estimations in this segment considering the pressure on input costs.

    Garments

    1HFY08 1HFY09 Change
    Shirts
    Volume (m Pcs) 1.0 0.7 -30.0%
    Avg Price (Rs/pc) 360 406 12.8%
    Knits
    Volume (m Pcs) 1.7 1.9 11.8%
    Avg Price (Rs/pc) 157 175 11.5%
    Jeans
    Volume (m Pcs) 0.8 1.2 50.0%
    Avg Price (Rs/pc) 397 422 6.3%
    Branded garments
    Sales (Rs m) 1,005.9 1,381.9 37.4%
    m Pcs-million pieces; pc-piece

  • Steep power and cotton costs have taken a heavy toll on margins and the company seems to be unable to find a solution to the problem. Cost of power cost at Naroda plant is Rs 5.27 per unit and at Santej is Rs 7.85 per unit as against previous year averages of Rs 4.10 and Rs 4.80 respectively.

  • The management continues to remain bullish on the revenue prospects of the retailing venture ĎMegamartí. Two large format MegaMart stores were opened in Pune and Bangalore during the quarter. However, margins for this venture are expected to remain very thin due to the high rental and operational costs.

What to expect?
At the current price of Rs 17, the stock is trading at a multiple of 5.9 times our estimated FY11 EV/EBIDTA. Given the fact that the company maintains a cautious outlook on its near term revenue and earnings, and the continued volatility in rupee-dollar rate there is little visibility in the medium term. However, the policy of servicing the key markets with value added products and focused marketing of brands seems to be yielding positive results. The company is targeting to improve its net margins by 1% till the end of FY09. Despite the relative attractiveness of the stock to its peers in terms of price to book value, we maintain a cautious stance on the earnings potential of the company.

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