initiating coverage · 2018-07-28 · arvind has a portfolio of 15 international licensed brands...

JULY 23, 2018

Kotak Securities Limited has two independent equity research groups: Institutional Equities and Private Client Group. This report has been prepared by the Private Client Group. The views and opinions expressed in this document may or may not match or may be contrary with the views, estimates, rating, target price of the Institutional Equities Research Group of Kotak Securities Limited.

Initiating Coverage

ARVIND LTD PRICE RS. 398 TARGET RS. 500 BUY

Arvind Ltd promoted by Lalbhai family, is a leading textiles company with presence in textiles, branded apparel and engineering business. Its branded apparel business has a portfolio of 15 international licensed brands (such as US Polo, Arrow, Tommy Hilfiger, Calvin Klein, etc) and 12 in-house brands (such as Flying Machine) which are managed by qualified professionals. We expect all its brands to be profitable in FY19E, resulting in 230 bps improvement in EBITDA margins of the branded apparel business between FY18-20E. Further, its verticalization strategy in its textiles business by focusing on garmenting business would positively impact the RoCE of the business. We believe that Arvind being a major player in branded apparel business and having long history in textiles business would be benefited by rising disposable income, growth in retail sector and increasing preference towards branded apparels. We believe that the demerger of branded apparel and engineering business would unlock value of each of the businesses post listing. We initiate coverage on the stock with BUY recommendation and SOTP based target price of Rs 500.

Key investment argument

Largest portfolio of brands managed by qualified professionals. Arvind has a portfolio of 15 international licensed brands and 12 in-house brands targeting different segments and are managed by qualified and experienced professionals. The company has delivered robust track record in certain brands in terms of their sales performance in India and built relationship of over 20 years with the brand owners. Based on this, the company registered revenue and EBIT CAGR (organic + inorganic) of 22.3% and 32.1%, respectively in branded apparel business in FY13-18. We expect that the trend to continue with 20.6% CAGR in revenue and 41.2% CAGR in EBITDA in FY18-20E.

Margins to improve with all brands business turning profitable. Over the years, Arvind had built up strong portfolio of licensed international brands and has been investing in growing them. The rise in scale of operation of these brands resulted in increased contribution to the bottomline. At the end of FY18, barring three brands, all others were EBITDA positive. The balance three brands are expected to be profitable in FY19E led by increased scale of operation. In addition, its Power brands like Arrow, US Polo and Flying Machine which command higher margins should maintain their pace in terms of growth. Based on this, we expect 230 bps improvement in EBITDA margins of branded apparel business in FY18-20E.

Verticalization of textiles business would positively impact returns ratios. The company has adopted verticalization strategy in order to move up in value chain by increasing focus on garmenting business. This strategy is based on its strong customer relationship and high quality raw material supply through inhouse manufacturing. Presently, the company is utilizing 10% of its fabric capacity for garmenting and targets to achieve 30-35% in the next three to four years. We believe that the verticalization strategy would positively impact the RoCE of the textiles business in the longer run as garmenting business has higher returns ratios. Further, the company’s focus towards low cost destination would help it in competing against international peers.

Financial Summary

Y/E Mar (Rs mn) FY18 FY19E FY20E

Revenue 108261 121495 139008

Growth (%) 17.2 12.2 14.4

EBITDA 9650 11464 14723

EBITDA margin (%) 8.9 9.4 10.6

PAT 3158 4211 6506

EPS 12.2 16.3 25.2

EPS Growth (%) (1) 33 54

Book value (Rs/share) 158 172 194

Dividend per share (Rs) 2.4 2.4 2.4

ROCE (%) 8.8 10.2 13.3

ROE (%) 8.1 9.9 13.8

P/E (x) 32.6 24.4 15.8

EV/EBITDA (x) 13.8 11.6 9.0

P/BV (x) 2.5 2.3 2.1

Source: Kotak Securities - PCG; Company

Market cap (Rs mn) : 105684

52-wk Hi/Lo (Rs) : 479 / 353

Face Value (Rs) : 10

3M Avg. daily vol : 1,737,962

Shares o/s (m) : 259

Source: Bloomberg

Stock Details

(%) Jun-18 Mar-18 Dec-17

Promoters 42.9 42.9 42.9

FII 21.9 27.1 27.1

DII 18.6 13.8 14.1

Others 16.6 13.8 15.9

Source: Company

Shareholding Pattern (%)

(%) 1M 3M 6M

Arvind Ltd (1.5) (5.2) (11.0)

Nifty 2.2 4.2 1.1

Source: Bloomberg

Price Performance (%)

Source: Bloomberg

Price chart

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Pankaj Kumar

[email protected]

+91 22 6218 6434

Kotak Securities – Private Client Research Please see the Disclosure/Disclaimer on the last page For Private Circulation 2

JULY 23, 2018

Demerger to create focused approach on individual businesses. Arvind has taken decision to demerge its branded apparel and engineering business into separate companies and list them separately. The branded apparel business will be demerged into Arvind Fashions Ltd. (AFL) and engineering business will be demerged into Anup Engineering Ltd (AEL). The demerger would create three separately listed companies focusing on three different business which will lead to increase in focus of individual businesses. We believe that the demerger would also unlock value of each of the businesses post listing expected in next 3-6 months.

Positive outlook for Indian textiles sector. The textile industry in India has grown at a CAGR of over 10% in 2009-17 (July 2017) and is expected to reach US$ 250 bn by 2019. The current fashion retail market is ~ US$ 46 bn and is expected to grow at a CAGR of 9.7% to reach US$ 115 bn by 2026. The growth is driven by increasing preference towards brands, favorable demographics led by large young population, increasing urbanization, entry of international brands, etc.

Outlook & Valuation We expect company’s revenue and PAT to grow at a CAGR of 13.4% and 43.5%, respectively in FY18-20E driven by 27% volume CAGR in garments business, 20.6% CAGR growth in branded retail business, all brands turning profitable and improved operating leverage across segments. We expect 170 bps improvement in EBITDA margins in FY18-20E. This will have positive impact on earnings, cash flows and returns ratios.

The stock is presently trading at FY19E/20E PE of 24.4/15.8 based on EPS of Rs. 16.3/25.2 respectively. We have valued Arvind on sum of the parts basis (SOTP) where we have assigned FY20E EV/EBITDA multiple of 16x to the branded apparel business, 8x to the textile business and 13x to the engineering business. We initiate coverage on the stock with BUY recommendation and SOTP based target price of Rs 500.

Risks & Concerns

Major revision in license terms of foreign brands

Lower export incentive

Raw material or forex volatility


JULY 23, 2018

COMPANY BACKGROUND Arvind Ltd, founded in 1931 by Lalbhai family, is a leading textiles company with interest in Textiles, Branded Apparel and Accessories, Engineering, etc. The company manufactures and sells about 300 million meters (mn mtr) of fabrics and over 30 mn pieces of garments (FY18). In branded apparels business, the company’s own brands such as Flying Machine, Colt, Ruggers and Excalibur, etc. It also has a portfolio of licensed brands which includes US Polo Association, Arrow, Tommy Hilfiger (TH), Gap, Calvin Klein (CK), Hanes, Gant, Nautica, Izod, Ed Hardy, Elle, Cherokee, The Children’s Place, Aeropostale, etc. It also owns the value chain ‘Unlimited’ and is the franchise partner of the world’s largest beauty retailer ‘Sephora’. In engineering business, it designs and manufactures critical process equipment for petrochemical, fertilizer, power and other process industries.

History

Year Event

1931 The Lalbhai family founded Arvind Mills

1980 Flying Machine was launched

1986 First Denim Plant at Naroda Road, Ahmedabad

1987 Started High Value cotton shirting

1993 Tie-up for Global brands Arrow

1996 Set up modern textile manufacturing units at Santej, Ahmedabad

1998 Set up of shirting facility at Santej, Ahmedabad

2008 Name changed from Arvind Mills to Arvind

2010 Arvind Stores was setup for Selling its brands

2011 Expanded fglobal; brands portfolio by adding Calvin Klein, Tommy Hilfiger, Gap, Ed Hardy,

Hanes, Nautica and Elle

2014 Global patent for Polymeric Film Evaporation Technology by Arvind Envisol

2014 Launched Create brand

2016 Tied up with Sachin Tendulkar to launch True Blue

2017 launches its own Ready-To-Wear brand

2017 Announced demerger and listing of its branded apparel (Arvind Fashions) and Engineering

(Anup Engineering) businesses

Source: Company


JULY 23, 2018

Business verticals Textiles: The textiles business is operated by parent company Arvind limited and involves manufacturing of wide variety of fabrics including, woven, knitted, denim etc. The company has positioned itself as a leading fabrics and apparel supplier to world’s top brands. The company has manufacturing capacity of 100 mn meter per annum of denim, 132 mn mt p.a. of woven fabrics, 12,000 tonnes p.a. of knitted fabric and garmenting capacity of ~30mn pieces per annum. The company is focused on verticalization of textiles business by manufacturing garment with large focus on exports. Its garmenting facilities are located in India and Ethiopia. The company intends to expand its garment facilities to 3x in next 3 years by adding capacities in Jharkhand and Ethiopia. The company is also focusing on next generation clothing segment such as activewear, sportswear, etc using man made fibers and blends.

Brand & Retail Business: Arvind has a portfolio of 15 international brands and 12 owned brands which would be part of Arvind Fashions Ltd (AFL) post demerger. Its brand CK and TH which was earlier controlled by JV company would now be part of AFL. These two brands contribute Rs 4.8 bn or 12.5% to AFL revenue. Out of its 12 owned brands, Flying Machine is sold through multiple channels while balance 11 inhouse brands are sold through its own value retail store ‘Unlimited’. In terms of distribution of brands, ~25-30% of brand business comes from wholesale channel, while balance are through EBOs, departmental stores (large format stores) and online. The company categorizes its large size high growth brands with higher margins (at 12.2% in FY18) as Power brand which includes US Polo, Arrow and Flying Machine. Power brands contributed 59% of FY18 brand revenue and have been growing a CAGR of ~24% in terms of revenue and 26% in terms of EBITDA.

Engineering business: Anup Engineering would take care of engineering and fabrication business post demerger. It is the 3rd largest heavy fabrication player in India. The company manufactures critical process equipment like Heat Exchangers, Pressure Vessels, Reactors, Columns/Towers, Centrifuges, etc.

Other business: The company is also present in technical textiles through its Advance Materials division and is part of parent company Arvind Ltd. The division caters to sectors such as infrastructure, healthcare, energy, aviation, and industrial. Arvind’s subsidiary, Arvind Envisol Ltd. is specialized on supply of water and waste water treatment plants for Industrial Process and provides environmental solutions.

New businesses: The new business which are B2C and retail are part of Arvind Ltd. But post demerger, these businesses would be merged with AFL. Under this, the company has two businesses which includes 1) footwear where it has three own brands along with 2 international brands, and 2) customized premium clothing under the brand ‘Creyate’. These businesses are expected to be profitable in FY19E.


JULY 23, 2018

Business Segments at a Glance

Particulars Arvind Ltd Arvind Fashions Ltd Anup Engineering Ltd

Presence/capacity 300 mn meters fabrics, 1297 stores: 1160 brands, Current order book Rs 1.5 bn 30 mn pieces garments 101 unlimited, 36 specialty

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Business Textiles Business: Fabrics and Branded apparels & Retail Engineering Business: Critical process Apparel supplier to world’s Business equipment manufacturer top brands

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Growth Driver Global opportunity India consumption growth Opportunity from new and opportunity renewal sector

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Revenue & Growth (FY18) Rs 67.5 bn, 7% yoy Rs 38.52 bn, 31% yoy Rs 2.24 bn, up 25%

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EBITDA Margin% (FY18) 10% 6.1% 23.9%

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RoCE % (FY18) 10% 5.3% 24.0%

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Outlook/Guidance FY19 10% growth, 35% growth in 20-24% growth in revenue with 10-12% growth in revenue, with Volume with flattish margins 1% margin improvement flattish margins

Source: Company, Kotak Private Client Research

Top management

Name Designation Details

Sanjay S. Lalbhai Chairman and MD Under his leadership, Arvind has become one of the largest manufacturers of woven textiles in India, and one of the largest denim fabric manufacturers in the world. He was also responsible for acquiring India’s first denim brand ‘Flying Machine’ in 1981. He also serves on the board of several premier educational and research institutes.

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Punit Lalbhai Executive Director He has done MBA from INSEAD and a Masters of Environmental Science from Yale University. He leads Arvind's Advanced Materials, Engineering, and Agribusinesses. He also spearheads initiatives in sustainability, CSR, and innovation at Arvind.

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Kulin Lalbhai Executive Director He holds an MBA from the Harvard Business School, and a BSc in Electrical Engineering from the Stanford University. Prior to his current role, he has also been a management consultant at Mckinsey & Co. He is driving new initiatives in the consumer businesses of the group. He has been instrumental in setting up several new retail concepts and also spearheads the group’s digital initiatives. He also plays an active role in the overall corporate strategy.

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Jayesh Shah Whole-time Director and CFO He is an associate member of ICAI and a Commerce Graduate from Gujarat University. He was working with the group in its various business divisions since 1985 and in the year 2002, became Director on the Board. Mr. Shah has extensive administrative, financial regulatory and managerial expertise with his vast experience in the field. He successfully undertook a financial restructuring of the company during the period 2000-02.

Source: Company & Industry


JULY 23, 2018

INVESTMENT RATIONALE Largest portfolio of brands managed by qualified professionals

Arvind has a portfolio of 15 international licensed brands and 12 in-house brands. The international brands include 3 retail brands GAP, The Children’s Place and Sephora which are part of specialty retail segment and balance 12 licensed brands and one own brand (Flying Machine) are sold through multiple channels. The channel wise mix for these brands includes 40% from EBOs, 25% from LFS/departmental, 25% from wholesale and 10% from online. Two third of its EBOs are based on franchisee and balance are owned stores. Further, its 12 own branded are sold through own retail Unlimited. The brand business is managed by qualified and experienced professionals who have vast experience in consumer and fashion industry.

The company has delivered strong track record in certain brands in terms of their sales performance in India and built relationship of over 20 years with the brand owners. This is well evident from the track record of its brand and retail division. In the last 5 years (FY13-18), the company registered revenue and EBIT CAGR (organic + inorganic) of 22.4% and 32.1%, respectively in branded apparel business. Its major brands like US Polo, Arrow and Flying Machine are categorized as power brands which grew at 24% CAGR with consistent double digit margins in the last five years (of 12.2% in FY18). Based on this strong portfolio of brands, the company is prepared to encash on the emerging opportunity in Indian branded apparel space.

Licensed Brands

Brand Brand Details

Arrow Arrow is the premium menswear brand and known for its classic American styling and is owned by

Phillips-Van Heusen (PVH). Arvind continued to remain sole licensee of the brand in India despite the

brand getting acquired by PVM. The brand's heritage is in dress shirts, and its offerings have expanded

to include sportswear.

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US Polo The U.S. Polo Assn. brand carries clothing for men, women and children, as well as accessories,

luggage, watches, shoes, home furnishings and more. Since its first store opened in 2011, US Polo

achieved Rs 10 bn plus sales within 5 years.

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Excalibur It is British Formal Brand and offers wardrobe solutions from work to after hours, with a youthful flavor

and cementing its position as an arbiter of taste and style.

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Ed Hardy Ed Hardy is an alternative lifestyle fashion brand that celebrates the classic American tattoo as an art

form.

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Cherokee American family-lifestyle brand, offering classic, casual comfort at affordable prices

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Izod American brand was founded in 1937 and is a mid-range clothing company that produces dressy

casual clothing, sportswear for men. It is part of PVH, forming part of its Heritage Brands division.

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ELLE ELLE, the largest selling fashion magazine in the world and is based in France. The group, now in

partnership with Arvind Lifestyle Brands, brings to India the ELLE range of French fashion wear.

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Grant GANT, is an international clothing brand based in Sweden. It is recognized as skilled shirt makers and

is now also in making jeans, wool sweaters, outerwear and polo shirts

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JULY 23, 2018

Nautica An American brand, founded in 1983, Nautica is a leading water-inspired global lifestyle brand including men’s, women’s and children’s apparel, accessories and a complete home collection. Nautica products are classics that are rich in performance, color and authentic style.

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Hanes Founded in 1991 in US, Hanes caters across men’s, kids’ and women’s intimate apparel and innerwear categories.

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GAP Gap is global mega brand which is over 110 years and serves to value-conscious customers with exclusively-designed collections for Gap Outlet and Gap Factory Stores and includes Gap, Banana Republic, Old Navy, Athleta and Intermix. Gap is the namesake brand for leading global specialty retailer, Gap Inc. Gap targets Women's and Men's apparel and accessories

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Aéropostale It is primarily mall-based, specialty retailer of casual apparel and accessories, principally targeting young women and men through its Aéropostale stores. It provides customers with a focused selection of high quality fashion and fashion basic merchandise at compelling values in an exciting store

environment

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The Childrens Place The Children’s Place is the largest pure-play children’s specialty apparel retailer in North America. The Company designs, contracts to manufacture, sells and licenses to sell fashionable, high-quality merchandise at value prices, primarily under the proprietary “The Children’s Place,” “Place” and “Baby Place” brand names.

Source: Company & Industry

Arvind Fashions – Management details

Name Designation Background

J Suresh MD & CEO Suresh is an MBA from IIM Bangalore and an Engineering graduate. He has over 30 years of experience in the FMCG, Lifestyle Brands & Retail industries. Prior to joining Arvind in 2005, he has worked in HUL for 18 years.

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S Kannan Chief Financial Officer, Kannan is a Chartered Accountant with over 23 years experience of working both in a MNC and Indian Brands & Retail company environment. He has worked with Hindustan Lever Ltd for 12 years in Financial Accounting, Commercial and Supply Chain Management functions.

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Alok Dubey COO – Sportswear & Alok is an MBA with over 26 years of wide experience in Sales & Marketing in Lifestyle Brands & Retail. Denim / Youth wear He joined Arvind in 2003 after working for 15 years in Titan and Swatch.

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Sumit Dhingra COO - Heritage Brands He is an MBA from IIM Lucknow and has rich experience in the industry. He managed to turnaround and scale up the Nautica business. Prior to joining Arvind he was associated with Madura Garments.

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Parag Dani CEO – Premium and He heads premium brand of the company. Prior to joining Arvind he was associated with Levis and Bridge to Luxury Brands Reliance Industries

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Shekhar CS CEO - Unlimited He heads retail arm ‘Unlimited’. Prior to joining the company he was associated with Lifestyle.

Source: Company


JULY 23, 2018

Brands have potential to become larger

AFL’s brands have potential to become larger. Brands like VH, LP, etc took 15-20 years to achieve Rs 5 bn revenue, but it took less than five years to achieve Rs 10 bn. Arrow has already crossed Rs 5 bn and has strong potential to grow over Rs 10 bn. The company is also expanding the presence of Arrow in Tier II and Tier III cities and is considering setting up over 40 new EBOs in these cities. Further, the company is also focusing on growing this brand through online channels. Similarly, the company is aggressively looking to grow Flying Machine which has doubled revenue in last three years to Rs 3-4 bn revenue range and intends to grow it to over Rs 10 bn in the longer run. In addition, the company is also positive on GAP and expect it to grow further through opening of new stores and existing stores turning profitable.

Peer comparison of brands in terms of size

Arvind Major Brands ABFRL Brands Raymond Other International brand/retailers Brands Value Brands Value Brands Value Brands Value

US Polo Rs 10 bn + Van Heusen Rs 10 bn + Park Average Rs 6 bn Zara Rs 10 bn+

Arrow Rs 6 bn Louis Philippe Rs 10 bn + Color Plus Rs 2.8 bn H&M Rs 7 bn+

Flying Machine Rs 3-4 bn Peter England Rs 10 bn + Raymond Rs 2.9 bn Benetton Rs 10 bn +

TH Rs 3-3.5 bn Allen Solly Rs 6 bn

CK Rs 1-1.5

Aeropostale Rs 1 bn+

GAP Rs 1 bn+

Source: Company, Industry, Kotak Private Client Research

Margins to improve with all brands business turning profitable

Over the years, Arvind had built up strong portfolio of licensed international brands and has been investing in growing them. The scale up of operation of these brands resulted in them achieving break even. The company’s retail business is also expected to do well in the year with GAP and Unlimited are expected to be profitable in FY19E. At the end of FY18, barring three brands, all others are EBITDA positive. The balance three brands are expected to be profitable in FY19E led by increased scale of operation. In addition, its Power brands like Arrow, US Polo and Flying Machine which commands higher margins would maintain its pace in terms of growth. The company is targeting 20-24% growth in brands and retail business driven by growth across segment. Higher growth in sales and improvement in operating leverage would result in all of its brands turning profitable and would positively impact EBITDA margin for AFL. The company expects 100 bps improvement in EBITDA margins every year in the next 2-3 years.

Power Brands growing at 24% CAGR

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JULY 23, 2018

Source: Company

Brand – Revenue breakup Brand – EBITDA Breakup

Source: Company, Kotak Securities - Private Client Research Source: Company, Kotak Securities - Private Client Research

Verticalization of textiles business would positively impact returns ratios

Over the years, Arvind has created strong presence in textiles space by offering quality products through constant innovations which resulted in long relationships with large global brands. The company is the largest denim player in India with over 100 mn meter of sales and also established its footprints in fabrics with over 130 mn meter sales.

The company has adopted its strategy to move up in value chain by increasing focus on garmenting business. This verticalization strategy is based on its strong customer relationship and high quality raw material supply through inhouse manufacturing. This should help it to grow in the segment. Presently, the company is utilizing 10% of its fabric capacity for garmenting. It targets to achieve 30-35% of garmenting in the next three to four years. Arvind has capacity of 35 mn pcs per annum in garments segment which it is expanding to 90 mn pcs per annum in the next 3-4 years. The company would be investing Rs 7.5 bn in the next three years to expand its capacity. We believe that the verticalization strategy would positively impact the RoCE of the textiles business in the longer run as garmenting business has higher returns ratios.

Garments Volume (mn pcs)

Source: Company, Kotak Securities - Private Client Research

Focus on expanding to low cost destination

The garmenting business in India is facing competition from other exporting nations like Bangladesh, Pakistan, etc who have advantages such as free trade agreement with EU, lower labour cost, etc. In order to compete with these peers, the company has setup garmenting unit in Ethiopia where the labour cost is 50% lower and enjoys zero duty for exports to the US and Europe. Arvind has setup 10

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mn pcs per annum capacity in Ethiopia. Further, the company is also investing in India in states where government has given sops. It is investing in Jharkhand where the government is giving labour incentive upto 50% which would make it competitive against other countries like Bangladesh. We believe that the company’s focus towards low cost destination would help it in competing against international peers.

Demerger to create focused approach on individual businesses

Arvind has taken decision to demerge its branded apparel and engineering business into separate companies to be listed separately. The branded apparel business will be demerged into Arvind Fashions Ltd (AFL) and engineering business will be demerged into Anup Engineering Ltd (AEL). The demerger would create three separately listed companies focusing on three different business which lead increase the focus on individual businesses run separately. We believe that the demerger would also unlock value of each of the business post listing. As per scheme of arrangement, shareholders of Arvind Limited will be entitled for 1 equity shares of Arvind Fashions Limited for every 5 shares held by them. Further, Arvind shareholder will also get 1 equity shares of Anup Engineering Limited for 27 shares held by them.

Transaction detail

Source: Company

Existing structure: Businesses under divisions and subsidiaries Proposed structure: Independent Listed companies

Source: Company Source: Company

Textile business to grow on its own post demerger

The demerger would help textiles business grow on its own in future as the cash flows will be utilized towards building capability in the business. The company intends to invest Rs 15 bn in parent Arvind ltd out of which Rs 7.5 bn will be used for investing in the garments and balance Rs 7.5 bn will be used for new age fabrics, technical textiles, automotive fabrics, etc.


JULY 23, 2018

Positive outlook for Indian textiles sector

The textile industry in India grew at a CAGR of over 10% in 2009-17 (July 2017). The industry is projected to reach US$ 250 bn by 2019 from US$ 150 bn in July 2017 which implies 22.7% CAGR. The Textile and apparel exports from India reached US$ 37.85 bn in 2018, which included US$ 21.15 billion from textiles and US$ 16.71 bn was from apparels (forecast to reach US$ 82 bn by FY21). The growth in Indian textiles sector is driven by increased penetration of organized retail, favorable trade policies, superior quality, rising per capita income, favorable demographics, etc. Further, abundant availability of raw materials such as cotton, wool, silk, jute, etc. give an edge to India in the global trade.

Textile and apparel industry in India (US$ bn) Textiles and apparel exports from India (US$ bn)

Source: IBEF May 2018 Source: IBEF May 2018

Positive outlook for retail industry

With consumerism & disposable income on the rise, the retail sector has experienced a rapid growth in the past decade with several international players entering Indian market. As per industry estimates, the Indian retail market is expected to reach US$ 1.57 trillion by 2026 from US$ 641 billion in 2016 (CAGR of 10%). Organized retail was 8% of the total market in 2015 and is expected to reach 24% by 2020, thus expected to grow at 24.57% CAGR in 2015-2020. This will be driven by rising income levels, increased urbanization, growing aspiration levels, etc. Indian apparel industry which is the second largest contributor in the retail industry after food and grocery is seeing some major shift.

Indian retail industry (US$ bn) Organised retail in nascent stage

Source: IBEF, BCG , KPMG- indiaretailing.com, Deloitte Report Source: IBEF, BCG , KPMG- indiaretailing.com, Deloitte Report

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JULY 23, 2018

Indian branded apparel sector to do well

As per industry estimates, the current fashion retail market is ~ US$ 46 bn and is expected to grow at a CAGR of 9.7% to reach US$ 115 bn by 2026. The growth is driven by increasing preference towards brands, favorable demographics led by large young population, increasing urbanization, entry of international brands, etc. According to World Bank, urban population accounts for 32.7 per cent of the total population of India and rising incomes has been a key determinant for increasing brand preference and results in upward push on demand. Increasing urbanization, growing middle class, and rise in per capita income supported growth of branded players. Foray of premium international brands into the Indian market with new designs and styles wooed the consumers and changed their preference towards branded products.

Rise in urban population (% share of total)

Source: Census

Trends in per-capita income in India (US$) Changing economic fortunes by income segments

Source: IBEF, IMF, Mckinsey Global Institute, TechSci Research Source: IBEF, IMF, Mckinsey Global Institute, TechSci Research

Engineering business: great future ahead

Arvind’s engineering business, (under subsidiary) Anup Engineering has built up capability to manufacture critical process equipment and caters to marquee clientele. Its products include critical engineering process equipment like Heat Exchangers, Pressure Vessels, Reactors, Columns/Towers and Centrifuges and caters to Oil and Gas, Petrochemicals, Fertilizers and Pharma sectors. The segment has grown at a CAGR of 25% in FY13-18 with high margins of 30% and RoCE of ~40%. It has net cash balance sheet and has been generating healthy cash flows. The company is also looking at global opportunity in the business and targets to achieve Rs 10 bn revenue in next 5-6 years.

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JULY 23, 2018

RISKS & CONCERNS Major revision in license terms of foreign brands: Arvind has license arrangement with 12 international brands. Any revision in license terms or termination of the same would be negative for the company.

Lower export incentive: The company gets government incentive for its garment business. Any major revision in incentive by central or state governments may impact the profitability of the export driven garments business.

Raw material or forex volatility: Any major volatility in the currency or raw material may impact the profitability of textiles exports business.


JULY 23, 2018

FINANCIAL PROJECTIONS Revenue to grow at 13.4% CAGR in FY18-20E

We expect Arvind’s revenue and PAT to grow at a CAGR of 13.4% and 43.8% respectively in FY18-20E. The growth in revenue is driven by 9% CAGR in textiles, 21% CAGR in branded apparels and 17.5% CAGR in engineering business. In textiles business, we expect garment volumes to grow at a CAGR of 27% in FY18-20E which would result in increased consumption of inhouse fabrics. We expect 17% CAGR in EBITDA for the segment in the period. We have assumed improved performance in branded apparel segment with 20.6% CAGR in revenue and 41.2% CAGR in EBITDA during the period driven by 230 bps improvement in EBITDA margins for the segment in FY18-20E. We have estimated 17.5% CAGR in engineering business with EBITDA margins of 24-25% in FY18-20E.

Financial Estimates (Entities-wise)

Particulars (Rs mn) FY17 FY18 FY19E FY20E

Revenue 92350 108260 121895 139314

Textiles 61580 67500 72888 80195

Branded Apparel 28980 38520 46431 56028

Engineering 1790 2240 2576 3091

Revenue Growth (%)

Textiles 21.5 9.6 8.0 10.0

Branded Apparel 25.9 32.9 20.5 20.7

Engineering 23.4 25.1 15.0 20.0

EBITDA 10180 9660 11475 14718

Textiles 8190 6770 7435 9263

Branded Apparel 1450 2350 3422 4683

Engineering 540 540 618 773

EBITDA Margin (%) 11.0 8.9 9.4 10.6

Textiles 13.3 10.0 10.2 11.6


Engineering 30.2 24.1 24.0 25.0

EBITDA Growth (%)

Textiles -11.7 -17.3 9.8 24.6


Engineering 34.4 0.0 14.5 25.0

Source: Company, Kotak Securities - Private Client Research

EBITDA and PAT to grow at faster pace on improved margins

We expect the consolidated EBITDA margins to improve by 170 bps in FY18-20E to 10.6% led by improved profitability in branded apparel business. The improvement in margins would be driven by all its brands turning profitable led by operating leverage and higher growth across brands and retail segment. Based on this, we expect EBITDA and PAT to grow at a CAGR of 23.5% and 43.5% respectively in FY18-20E. We expect RoE and RoCE of the company to improve from 8.1% and 8.8% to 13.8% and 13.3%, respectively in FY18-20E on improved margins and increased asset turnover ratios. We expect strong free cash flows despite its ongoing capex and expect net debt to equity to be in 0.6-0.7x range. This should help the company to grow its business without much borrowing.


JULY 23, 2018

Net Sales & Growth PAT and Growth


EBITDA Margin & PAT Margin (%) RoCE & RoE (%)


Net D/E (x) OCF & FCF


0

5

10

15

20

0

50,000

100,000

150,000


Net Sales (Rs mn, LHS) Growth (%, RHS)

0.0

2.0

4.0

6.0

8.0

10.0

12.0


EBITDA margins % PAT Margins

0.30

0.40

0.50

0.60

0.70

0.80

FY17 FY18E FY19E FY20E

(10)

0

10

20

30

40

50

60

0

1,000

2,000

3,000

4,000

5,000

6,000

7,000


PAT (Rs mn, LHS) Growth (%, RHS)

0

5

10

15

20


RoE RoCE

-1000

0

1000

2000

3000

4000

5000

0

2,000

4,000

6,000

8,000

10,000


Operating Cash Flows (Rs mn, LHS)

FCF (Rs mn, RHS)


JULY 23, 2018

OUTLOOK & VALUATION We expect company’s revenue and PAT to grow at a CAGR of 13.4% and 43.5% respectively in FY18-20E driven by higher volume growth in garments business, better growth in branded retail business, improved operating leverage, all brands turning profitable, etc. We expect 170 bps improvement in EBITDA margins in FY18-20E. This will have positive impact on earnings, cash flows and returns ratios.

We believe that Arvind being a major player in branded apparel business and having long history in textiles business has strong potential to grow keeping in mind increasing penetration of new brands, rising disposable income, increasing preference towards brands, etc. Robust brand portfolio, strong management and vast presence across geographies would always give Arvind an edge over other smaller players in the branded apparel space. We believe that the demerger would result in value unlocking opportunity for its business segments.

The stock is presently trading at FY19E/20E PE of 24.4/15.8 based on EPS of Rs. 16.3/25.2 respectively. We have valued Arvind on sum of the parts basis where we have assigned FY20E EV/EBITDA multiple of 16x to branded apparel business, 8x to textile business and 13x to engineering business. Based on this we arrive at target price of Rs 500. We initiate coverage on the stock with BUY recommendation and SOTP based target price of Rs 500.

SOTP valuation

Segment Parameter FY20E Multiple Value Per Share

Textiles EV/EBITDA 9,263 8 74,100 287

Apparels EV/EBITDA 4,683 16 74,930 290

Engineering EV/EBITDA 773 13 10,046 39

Others 1.5x BV 572 1.5 858 3

Net Debt 30,730 119

Value 129,204 500

Source: Kotak Securities - Private Client Research

Peer Comparison

Comparative Mcap FY13-18 FY13-18 FY20E FY20E FY18 FY18 FY18 (Rs bn) Sales PAT P/E (x) EV/EBITDA RoE RoCE Net D/E CAGR (%) CAGR (%) (x) (%) (%) (x)

Arvind 103 13 44 15.8 11.6 8.1 8.8 0.8

Raymond 49 12 40 20.5 12.6 8.1 6.2 1.3

ABFRL 104 16 5 34.6 15.8 11.5 6.0 1.5

Source: Company, Kotak Securities - Private Client Research, Bloomberg Estimates

P/E Band (x) EV/EBITDA band (x)

Source: Capitaline, Kotak Securities - Private Client Research Source: Capitaline, Kotak Securities - Private Client Research

0

100

200

300

400

500

600

Jun-

11O

ct-1

1Fe

b-1

2Ju

n-12

Oct

-12

Feb

-13

Jun-

13O

ct-1

3Fe

b-1

4Ju

n-14

Oct

-14

Feb

-15

Jun-

15O

ct-1

5Fe

b-1

6Ju

n-16

Oct

-16

Feb

-17

Jun-

17O

ct-1

7Fe

b-1

8Ju

n-18

(Rs)

7x

28x

21x

14x

0

40000

80000

120000

16000012x

9x

6x

3x


JULY 23, 2018

Financials: Consolidated Profit and Loss Statement (Rs mn)

(Year-end March) FY17 FY18 FY19E FY20E

Revenues 92,355 108,261 121,495 139,008 % change yoy 15.3 17.2 12.2 14.4

Raw Materials 42,094 52,738 58,455 66,881 Employees expenses 10,963 12,647 13,912 15,303

Other Expenses 29,893 33,227 37,663 42,100 Total Expenditure 82,950 98,612 110,030 124,285

EBITDA 9,406 9,650 11,464 14,723 % change yoy (1.0) 2.6 18.8 28.4

Depreciation 2,943 3,593 3,976 4,327 EBIT 6,463 6,056 7,488 10,396 Other Income 780 626 726 826

Interest 2,884 2,579 2,722 2,722 Profit Before Tax 4,197 3,904 5,520 8,528 % change yoy (4.8) (7.0) 41.4 54.5 Tax 997 746 1,308 2,021

as % of EBT 23.7 19.1 23.7 23.7 PAT 3,201 3,158 4,212 6,507 % change yoy 1.2 (1.3) 33.4 54.5

Shares outstanding (mn) 258 259 259 259 EPS (Rs) 12.4 12.2 16.3 25.2

DPS (Rs) 2.4 2.4 2.4 2.4 CEPS (Rs) 23.8 26.1 31.7 41.9

BVPS (Rs) 143.8 158.1 171.6 193.9

Source: Company, Kotak Securities – Private Client Research

Cash Flow Statement (Rs mn)


Pre-Tax Profit 4,197 3,904 5,520 8,528

Depreciation 2,971 3,593 3,976 4,327 Change in WC (3,137) (4,141) (2,531) (4,595)

Other operating activities 1,404 1,833 1,414 701 Operating Cash Flow 5,435 5,189 8,378 8,960 Capex (4,426) (5,509) (4,500) (4,500)

Free Cash Flow 854 (320) 3,878 4,460 Change in Investments 4,720 0 0 0

Investment cash flow 294 (5,509) (4,500) (4,500)

Equity Raised 6,347 3 0 0 Debt Raised/Repaid (8,536) 2,384 0 0

Dividend (740) (726) (726) (726) Interest & Others (2,885) (1,156) (2,722) (2,722)

CF from Financing (5,815) 505 (3,448) (3,448)

Change in Cash (86) 185 430 1,012 Opening Cash 296 209 395 825

Closing Cash 209 395 825 1,837


Balance sheet (Rs mn)


Equity 37,184 40,881 44,366 50,145

Equity Share Capital 2,584 2,586 2,586 2,586 Other Equity 33,086 35,242 38,727 44,506

Liabilities 49,496 61,703 59,719 63,529 Non-current liabilities 10,207 10,655 10,655 10,655

Financial Liabilities 8,016 8,927 8,927 8,927 Provisions 407 618 618 618

Other non-current liabilities 355 402 402 402 Current liabilities 39,289 51,048 49,064 52,874

Financial Liabilities 37,892 48,800 46,541 49,987 Provisions 168 258 289 331

Other current liabilities 1,229 1,990 2,233 2,555 Total Equities & Liabilities 86,680 102,584 104,085 113,674 Non-current assets 45,846 47,190 47,845 48,154 Property, Plant and Equipment 34,801 36,255 36,779 36,952

Capital work-in-progress 497 897 897 897 Goodwill, intangible & Others 2,381 3,632 3,632 3,632

Investmnt & other financl assets 5,183 3,392 3,522 3,659 Deferred Tax Assets (Net) 2,242 2,205 2,205 2,205

Other non-current tax assets (Net) 742 808 808 808 Current assets 40,834 55,394 56,240 65,519

Inventories 23,828 26,194 29,396 34,276 Financial Assets 12,622 22,220 25,009 29,143

Receivable 7,948 17,670 19,830 22,688 Cash & Bank Balance 209 395 825 1,837

Others 4,465 4,156 4,356 4,620 Other current assets 4,384 6,980 1,836 2,100

Total Assets 86,680 102,584 104,085 113,674

Source: Company, Kotak Securities – Private Client Research Ratio Analysis


Profitability Ratios EBITDA margin (%) 10.2 8.9 9.4 10.6 EBIT margin (%) 7.0 5.6 6.2 7.5

Net profit margin (%) 3.5 2.9 3.5 4.7 Adjusted EPS growth (%) 1.2 (1.3) 33.4 54.5

Balance Sheet Ratios Receivables (days) 31 60 60 60

Inventory (days) 94 88 88 90 Payable (days) 56 72 56 56

Working capital (days) 97 105 102 103 Asset Turnover 2.0 2.2 2.3 2.4

Net Debt/ Equity 0.5 0.5 0.5 0.4 Return Ratios RoCE (%) 12.4 10.0 10.2 13.3 RoE (%) 10.0 8.1 9.9 13.8

Valuation Ratios P/E (x) 32.2 32.6 24.4 15.8

P/BV (x) 2.8 2.5 2.3 2.1 EV/EBITDA (x) 13.8 13.8 11.6 9.0

EV/Sales (x) 1.4 1.2 1.0 0.9



JULY 23, 2018

RATING SCALE

Definitions of ratings

BUY – We expect the stock to deliver more than 12% returns over the next 12 months

ACCUMULATE – We expect the stock to deliver 5% - 12% returns over the next 12 months

REDUCE – We expect the stock to deliver 0% - 5% returns over the next 12 months

SELL – We expect the stock to deliver negative returns over the next 12 months

NR – Not Rated. Kotak Securities is not assigning any rating or price target to the stock. The report has been prepared for information purposes only.

RS – Rating Suspended. Kotak Securities has suspended the investment rating and price target for this stock, either because there is not a Sufficient fundamental basis for determining, or there are legal, regulatory or policy constraints around publishing, an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon.

NA – Not Available or Not Applicable. The information is not available for display or is not applicable

NM – Not Meaningful. The information is not meaningful and is therefore excluded.

NOTE – Our target prices are with a 12-month perspective. Returns stated in the rating scale are our internal benchmark.

FUNDAMENTAL RESEARCH TEAM

Rusmik Oza Arun Agarwal Amit Agarwal Nipun Gupta Krishna Nain Head of Research Auto & Auto Ancillary Transportation, Paints, FMCG Information Tech, Midcap Special Situations [email protected] [email protected] [email protected] [email protected] [email protected] +91 22 6218 6441 +91 22 6218 6443 +91 22 6218 6439 +91 22 6218 6433 +91 22 6218 7907 Sanjeev Zarbade Ruchir Khare Jatin Damania Cyndrella Carvalho K. Kathirvelu Cap. Goods & Cons. Durables Cap. Goods & Cons. Durables Metals & Mining, Midcap Pharmaceuticals Production [email protected] [email protected] [email protected] [email protected] [email protected] +91 22 6218 6424 +91 22 6218 6431 +91 22 6218 6440 +91 22 6218 6426 +91 22 6218 6427 Teena Virmani Sumit Pokharna Pankaj Kumar Jayesh Kumar Construction, Cement, Building Mat Oil and Gas, Information Tech Midcap Economy [email protected] [email protected] [email protected] [email protected] +91 22 6218 6432 +91 22 6218 6438 +91 22 6218 6434 +91 22 6218 5373

TECHNICAL RESEARCH TEAM

Shrikant Chouhan Amol Athawale [email protected] [email protected] +91 22 6218 5408 +91 20 6620 3350

DERIVATIVES RESEARCH TEAM

Sahaj Agrawal Malay Gandhi Prashanth Lalu Prasenjit Biswas, CMT, CFTe [email protected] [email protected] [email protected] [email protected] +91 79 6607 2231 +91 22 6218 6420 +91 22 6218 5497 +91 33 6625 9810

mailto:[email protected]







JULY 23, 2018

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initiating coverage · 2018-07-28 · arvind has a portfolio of 15 international licensed brands...

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