Arvind Q4 review: Near-term challenges to persist
– The company is investing heavily in expanding its garment capacities
– Captive consumption of fabrics is expected to increase
– Industry dynamics may remain unfavourable in the next few quarters
– A sharp re-rating in valuation multiple seems unlikely in the foreseeable future
Arvind, one of India’s leading textile manufacturers, churned out a soft Q4. Post-demerger, the stock offers value, but industry headwinds and heavy capex plans of the company make us cautious.
Q4 FY19 performance
– Revenue in the advanced materials segment rose sharply on the back of strong demand and order execution. Margin improved due to a good product mix
– Overall gross margin rose sharply year-on-year on sourcing efficiencies
– Higher overheads restricted operating margin expansion
– A significant increase in financing costs resulted in flat bottom-line margin
– Sales in the textiles segment contracted significantly due to weak offtake across trade channels
– Steep input prices and de-growth in top line took a toll on margin
To achieve higher return ratios, Arvind’s dependence on external fabric suppliers is likely to come down. Captive consumption of fabrics (for manufacturing garments) is slated to increase to 25-30 percent (of the total fabric output) over the next 2-3 years, as against 10-15 percent in FY19. Additionally, the company is likely to foray into manufacturing of athleisure and activewear (fabric and garments).
Prospects in the advanced material (technical textiles) category remain good since the product portfolio comprises high-margin and specialised products such as human protection fabric/garments, industrial equipment, advanced composites and automotive fabrics. However, since the contribution of this segment to annual consolidated revenue is minimal, it won’t improve the company’s financials dramatically.
India’s textile sector has been going through a rough patch. This is largely on account of steep rise in input procurement costs (cotton in particular), the liquidity crisis and the overall industry slowdown due to the twin blows of GST and demonetisation. As a result, all stocks across the manufacturing chain have been de-rated, and Arvind is no exception.
Near to medium-term challenges
Heavy capital investments will be made in doubling the garment manufacturing capacities over the next 2-3 financial years. In FY19, approximately 30-35 million garments were sold. In FY20 alone, a capex of Rs 375-425 crore will be incurred for this purpose.
In the denim fabric manufacturing space, there is an oversupply situation. This indicates lack of pricing power and would consequently put more pressure on margins.
Keeping the aforesaid factors in mind, the stock leaves little to look forward to in the near future in spite of its reasonable valuation of 9.17 times trailing 12-month earnings.
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Disclaimer: Moneycontrol Research analysts do not hold positions in the companies discussed here
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