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Arvind: Derivative, land gains boost profits - Views on News from Equitymaster

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Arvind: Derivative, land gains boost profits
Nov 18, 2010

Arvind Ltd. declared its 2QFY11 results. The company has reported 8% YoY growth in net sales while its profits have grown by 85% YoY. Here is our analysis of the results.

Performance summary
  • Topline grows by 3% YoY in 1HFY11 aided by higher volumes in denim sales in the domestic markets coupled with improved realisations.
  • EBIDTA margins drop marginally from 14.2% in 1HFY10 to 13.6% in 1HFY11 due to higher cotton and power costs.
  • Other income for the half year period includes gains from derivative transactions as compared to losses in 1HFY10. Also the company derived gains of Rs 115 m from sale of land in 1HFY11.
  • Lower interest costs further eased pressure on profits which grew by 93% YoY in 1HFY11.

(Rs m) 2QFY10 2QFY11 Change 1HFY10 1HFY11 Change
Net sales ††† 5,985 †††††††††† 6,434 7.5% ††††††† 11,772 ††††† 12,130 3.0%
Expenditure ††† 5,182 †††††††††† 5,631 8.7% ††††††† 10,101 ††††† 10,475 3.7%
Operating profit (EBDITA) ††††††† 803 †††††††††††††† 803 0.0% ††††††††† 1,671 ††††††† 1,655 -1.0%
EBDITA margin (%) 13.4% 12.5%   14.2% 13.6%  
Other income ††††††††† 82 †††††††††††††† 247 201.2% ††††††††††††††† 64 †††††††††† 420 556.3%
Interest† ††††††† 470 †††††††††††††† 469 -0.2% †††††††††††† 917 ††††††† 1,005 9.6%
Depreciation ††††††† 262 †††††††††††††† 298 13.7% †††††††††††† 574 †††††††††† 598 4.2%
Profit before tax ††††††† 153 †††††††††††††† 283 85.0% †††††††††††† 244 †††††††††† 472 93.4%
Tax †††††††††† -†† ††††††††††††††††† -††   †††††††††††††††† -†† †††††††††††††† -††  
Profit after tax/(loss) ††††††† 153 †††††††††††††† 283 85.0% †††††††††††† 244 †††††††††† 472 93.4%
Net profit margin (%) 2.6% 4.4%   2.1% 3.9%  
No. of shares (m)     ††††††††† 226.4 ††††††† 234.9  
Diluted earnings per share (Rs)*       †††††††††††† 3.2  
Price to earnings ratio (x)         ††††††††† 18.2  
(*On a trailing 12-month basis)

What has driven performance in 2QFY11?
  • Although the domestic business continued to remain lucrative for Arvindís denim segment in 2QFY11, exports continued to lag. The company, however, managed to grow its denim realizations by 6.7% YoY. This helped curtail the impact of rise in input costs to an extent. Infact the cost of raw materials as a percentage of sales went up significantly as the company resorted to buying semi-finished products to meet the surge in orders.

    The shirting business in fact, showed encouraging signs of improvement in volume off-take overseas. The division which is a supplier to the companyís garmenting arm, also did not disappoint on the domestic front (up 6% YoY). However, its realization growth remained muted at 4% YoY. The denim and shirting segments will have capacity expansions of 8% and 10% respectively by the end of 3QFY11.

    Fabrics performance
      2QFY10 2QFY11 Change
    Denim      
    Exports (mm) 10.5 †††††† 10.7 1.9%
    Domestic (mm) 9.9 †††††† 12.3 24.2%
    Avg Price (Rs/mt) ††††††† 119 ††††††† 127 6.7%
    Shirting      
    Exports (mm) 2.0 3.9 95.0%
    Domestic (mm) 11.4 12.1 6.1%
    Avg Price (Rs/mt) ††††††† 125 ††††††† 130 4.0%

  • Arvindís garmenting business seems to be doing well in the shirts category while the knits and jeans categories suffered with lower realizations. We have been conservative in our future growth estimations in this segment considering the pressure on input costs.

  • The interest costs were lower in 2QFY11 as the company had mark-to-market (MTM) gains on the forex borrowing. Going forward the pressure of interest costs is only set to rise in the medium term.

  • In FY10, Arvind had signed a nine-year gas supply agreement with GAIL, thus putting to rest the concern over supply of gas to its captive power plants. The cost of gas remained stable over that in 2QFY10. However, the cost of cotton went up by 60% from Rs 61 per kg to Rs 79 per kg in 2QFY11. Arvind expects the cost of cotton to remain firm in FY11.

  • Profits from sale of land in Ahmedabad came in as a windfall gain to the company this quarter. It booked profits of Rs 115 in 1HFY11. Further, it expects to derive additional gains from the sale of land in 2HFY11. However, investors need to keep in mind that these are one-time gains that cannot support the companyís profitability in the longer run.

What to expect?
At the current price of Rs 58, the stock is trading at a multiple of 9 times our estimated FY13 EV/EBIDTA ResearchPro subscribers can view latest updates here. While the management has projected higher growth in volume in the rest of FY11, the continued volatility in realisations reduces the visibility in the medium term. The denim and shirting capacities are expected to go up by 8% YoY and 10% YoY respectively by 3QFY11. The dependence on forex rates and high leverage are also dampeners. Despite the relative attractiveness of the stock to its peers in terms of price to book value, we believe that most of the near term upsides are already priced in.

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