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Vardhman Textiles: Highly commoditised business - Outside View by Luke Verghese

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Vardhman Textiles: Highly commoditised business
Apr 11, 2013

Irrespective of the efficiency levels, it is a non branded entity, and it is the price of cotton that determines its well-being

Making do with many manufacturing units

The company is a member of the extended Oswal group based out of Punjab who are predominantly into the textile business-this company no less so. It is a part of the S P Oswal clan. S P is the CEO and his daughter, son, and son in law function as executive directors. It is a family affair so to speak. The foursome collectively made do with a remuneration of Rs 50 m during the year. The family holding in the outstanding equity capital of Rs 636 m is unclear but three group companies who individually control more than 5% of the capital collectively hold 52.7% of the capital. Separately, some family directors together hold another 1.5%. Thus the promoter's family is very well entrenched. Vardhman Textiles operates 15 manufacturing units of which seven units are based out of Himachal Pradesh, five units out of Madhya Pradesh, and the rest appear to be based out of Punjab where the registered office is located. Each of the units caters to a specific function-spinning, dyeing, weaving, yarn, fabrics etc. The units at Himachal Pradesh comprise the integrated functions of a textile undertaking while the units at Madhya Pradesh merely process the yarn and the fabric. Two of the units at Madhya Pradesh are also referred to as the ‘power division'. The company has been in business for some 40 years.

The revenues accrue from both manufactured sales, sale of power, and from traded sales-adding up in all to Rs 38.13 bn. Traded sales are a mere flea bite in the overall scheme of things-with the bulk of the purchases limited to yarn. (Separately, the revenues also include export benefits, sale of services, and an item called others). In revenue terms, the biggest cash cow by far is yarn. Yarn sales alone accounted for over 63% of gross revenues arising from the sale of goods and from sale of power. This was followed by processed fabric sales accounting for another 25% and fabric sales (what's the difference between the two?) bringing in another 6.5%. Together the three items account for 95% of all sales against 86.7% in the preceding year. There was an item called Rolled Products which accounted for 8.5% of revenues previously against NIL in the latter year. It also appears to buy cotton and fibre and then resell them. Hopefully it is making some money here. The big game changer in the revenue accretals in the latter year is in furthering the export thrust on the one hand, and in the accounting for export benefits on the other. In the latest year the export benefits booked amounts to Rs 824 m against Rs 298 m previously. Presumably, these export benefits in turn are in conjunction to the export revenues for the corresponding year. The export revenues that it booked amount to Rs 16 bn against Rs 12.2 bn previously. That is to say export revenues accounted for 42% of sales net of excise, against 34% previously. The export benefits booked in the latter year appear to be decidedly larger relative to the revenues that it garnered. Is one to understand that there is no fixed pattern in claiming export benefits?

Cotton prices rule the roost

Not that exports buffet the company from the vagaries of cotton prices, as events have demonstrated. In a year in which it laid increased emphasis on exports to earn its bread, the pre-tax profits took a sharp dive. The profit before tax excluding other income fell to Rs 849 m against Rs 5.6 bn previously. The point is also that material input costs including purchase of stock in trade amounted to 60% of net revenues from operations against 46% previously. As one can see very clearly from the figures, it is the input costs of raw materials, period, which determines the profit margins of pure play textile mills. The value addition in the textile industry is in the branding, but that involves spending considerable sums to acquire the halo. I may add here that a saving grace of sorts was provided by other income which chipped in with a figure of Rs 606 m against Rs 432 m previously. Other income in the latter year accounted for 42% of pre-tax profits, against a marginal 7% in the preceding year. More importantly since the company does not provide separate financials for export income and domestic tariff area sales - companies are not required to do so--there is no knowing which system is the better of the two.

Relatively speaking the company is also borrowed to the hilt as is the case with all textile units. The total borrowings at year end, including short term debt, amounted to Rs 26.3 bn against a higher Rs 28.3 bn previously. Textile units perforce have to stock large sums of raw materials, and also have to suffer trade receivables. The value of inventories at year end amounted to 34% of the gross revenues from operations. The finance costs attributable to the debt have accelerated to Rs 1.73 bn from Rs 1.1 bn previously. There are two other unique aspects of this company. One is the manner in which it manages its finances and the other is the high gross block that it carries in its books.

Large investment portfolio

The company has made investments to the tune of Rs 5.14 bn against Rs 3.5 bn previously, under the category of current and non-current investments. This includes untied investments in debenture bonds amounting to Rs 2.91 bn-investments that it can necessarily do without. The vast bulk of the balance investments are tied up in the equity of group company shares. Apparently it must be making more money post tax by plonking down sums in such debenture bonds after setting off the interest costs in relation to the debt load related to these investments. For the matter of record the company received dividend incomes of Rs 148 m on all its investments, and also made a net gain of Rs 54 m from the sale of investments. The dividend returns have to factor in the reality that group companies do not necessarily have to give any return on investment at all. Such group company investments are more oftentimes mere watering holes - period. The company also bought and sold debt securities of the value of Rs 3.35 bn - with the bulk of the value in favour of purchases.

Huge fixed assets

The real startler is in the value of fixed assets that it carries in its books. The gross block at year end amounted to Rs 39.7 bn against Rs 36.8 bn previously. This figure excludes capital work in progress of Rs 1.8 bn against Rs 1.14 bn previously (this implies it is either sprucing up its facilities or putting up a new unit). The gross block merely generated gross revenues of Rs 39.1 bn-that makes for an asset turnover ratio of 1:1. The vast bulk of the gross block consists of plant and machinery valued at Rs 31.94 bn, with another Rs 6.5 bn made up of buildings. Are pure play textile units of such a capital intensive nature or what? The result is that the company also has to make provision for depreciation and, interest costs on debt when pricing its finished goods to account for the heavy capital outlay.

The other big players in the wellbeing of the company are its several siblings. It also has associate companies all of whom have some dealings with the parent. The company makes do with five siblings which are in a gamut of activities from acrylics (synthetic fibres), spinning, investments, yarns and threads, and garments. The parent has a 100% stake in only the investment company and it goes down to a holding of 51% in the garment company which was set up with Japanese collaboration. Then there are its stakes in Vardhman Steel and in Vardhman Textile Components too and which are classified as associates. There are considerable inter-se dealings between the parent and the siblings -- especially in the cross flow of cash. The parent purchased goods from its siblings amounting to Rs 3 bn and sold goods to them amounting to Rs 317 m. So in effect it is the closely held siblings which have a captive market of sorts to themselves in sales. Then there is both the purchase and sale of DEPB (duty entitlement pass book) licences in respect of exports which flowed to and fro between the parent, and the siblings and associates. What is one to make of all this please? But it is in the flow of cash that it gets to be real serious. The parent loaned Rs 3.4 bn to the sidekicks during the year, the bulk of which was repaid by year end. The parent in turn also helped itself to a loan of Rs 9.55 bn from them and the bulk was repaid at year end to present a clean balance sheet. There is also the interest paid of Rs 47 m and the interest received of Rs 9.5 m apparently pertaining to the loans taken and given. Significantly the rate of interest levied on these loans has not been made available. But presumably the interests of all the players were well taken care of.

The siblings

The siblings by and large are able to fend for themselves. And, judging from the manner in which they are made to cough up the cash demands of the parent, they have to be units of some substance it would seem. In terms of paid up capital the top dog is Vardhman Acrylics Ltd. A paid up capital base of Rs 1 bn, positive reserves, and revenues of Rs 3.9 bn. It generated a pre-tax profit of Rs 353 m. But the company generating the highest revenues is Vardhman Yarns & Threads. On revenues of Rs 4.64 bn it toted up a pre-tax profit of Rs 597 m. It is also one of the two siblings which declared a dividend, the other being VMT Spinning. The latter is the third largest in revenue terms ringing in sales of Rs 1.44 bn and a pre-tax loss of Rs 24 m. The garment manufacturing unit with Japanese collaboration is yet to get off the ground. It ran up revenues of Rs 74 m and presented a pre-tax loss of Rs 43 m.

How these companies complement the financial wellbeing of the parent is a question which only the management will be in a position to answer. Then there are two associate units too whose financials are not available as the law does not prescribe their presentation. The share price (face value Rs 10) on its part swung from a high of Rs 298 to a low of Rs 155 during the financial year. So, inspite of its marginal performance that it has turned out there is money to be made in this counter - if the timing is right that is.

Disclosure: I do not hold any shares in this company, either directly, or under any non discretionary portfolio management scheme

This column Cool Hand Luke is written by . Luke has been a business journalist, financial analyst and knowledge management head with a professional experience of more than 20 years. An avid watcher of the stock market, he has written extensively on stock market trends. His articles have featured in Business Standard, Financial Express and Fortune India amongst others. He has also been the Deputy Editor, Fortune India and the Financial Editor of The Business and Political Observer.


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