Growth story continues

PENNY WISE

Textiles companies command widely divergent valuation multiples. What's rightly valued and what's not.

Seventeen months after the quota regime in textiles was dismantled, exports to the developed markets have shown better growth than in the past.

For instance, in calendar year 2005, exports to the US surged by 22 per cent in volume terms and 35 per cent in value terms, higher than 10 per cent and 14 per cent respectively in the previous year.

Though Chinese exports have grown at a faster clip, fears that competitive pressure from the Dragon and other low cost producing countries like Sri Lanka, Bangladesh and Pakistan would impede growth of Indian exports have been proved wrong.

Though the growth has been reflected in the earnings of some companies, not all textiles companies have been able to keep up their growth in earnings. Consequently, share price performances of textiles companies have been widely divergent.

For example, while share price of the cotton yarn major Mahavir Spinning has almost doubled since January 2005, it has tumbled by 30 per cent in case of denim major Arvind mills. In the same breadth, valuation multiples for different textile companies also vary substantially. 
 

MIXED BAG
Price performance (Rs)	CMP	Price as on  1.1.2005	% Chg
Mahavir	415.00	201.77	105.68
Raymond	565.00	318.75	77.25
Rajsthan Spinning	132.60	88.65	49.58
Alok Industries	88.30	71.15	24.10
Gokaldas Exports	680.30	650.55	4.57
Indo Rama Synthetics	63.25	77.75	-18.65
Welspun	111.40	137.80	-19.16
Arvind Mills	93.50	134.50	-30.48

Among the frontline textile companies, having a turnover of over Rs 500 crore, valuations of Raymond, Arvind Mills, Gokaldas Exports and Mahavir Spinning Mills look on the higher side based on the price-earnings multiples. But analysts justify some of these valuations citing the potentially higher growth opportunities. 
 

P/E MULTIPLES (X)
	FY06	FY07E
Raymond	27.20	17.66
Arvind Mills	15.60	17.00
Gokaldas Exports	*25.00	14.82
Mahavir	*10.60	13.01
Indo Rama Synthetics	16.10	10.37
Rajsthan Spinning	11.30	10.05
Welspun	21.20	9.60
Alok Industries	13.41	9.39
* trailing 12-month P/E

Valuing companies on the basis of enterprise value (EV), however, portrays a vastly different picture. Since most of the textile businesses are capital-intensive, companies usually end up with huge debt on their books, which makes it imperative to measure companies based on their EV, which includes the value of equity and debt.

Whichever way one looks, Raymond looks the most expensive trading at a P/E of 18 times for FY07E. Even on EV/sales and EV/EBIDTA basis, it is trading at very rich valuations. The leader in the domestic worsted fabric market "� Raymond "� is one of the largest players in the segment globally and, more importantly, it is not exposed to pricing pressure at least in the domestic market. 
 

EV/SALES (X)
	FY06	FY07
Raymond	3.25	1.99
Welspun	2.46	1.72
Arvind Mills	2.15	1.91
Alok Industries	1.86	1.58
Mahavir*	1.78	1.54
Gokaldas Exports*	1.59	1.24
Indo Rama Synthetics	0.96	0.92
Rajsthan Spinning	0.61	0.54

Further, its quality of business is superior, thanks to its retailing initiatives and the premium brands it owns. Moreover, it is dependent on prices of wool "� its main raw material "� which are not so volatile as cotton prices.

An analyst with a multinational broking firm believes that EV/sales of the companies engaged in retailing, generally, range between 1.5 and 2.5 times. So, companies like Raymond look reasonably priced for FY07E and more so on the basis of its consolidated financial performance.

The same logic applies to the largest terry towel manufacturer and exporter, Welspun India, which is trading at EV/sales of over two times. The company retails its products through its subsidiary "� Welspun Retail "� having 58 stores in 31 cities occupying a retail space of one lakh sq ft.

Despite the high multiples enjoyed by Arvind Mills, analysts think the stock is fairly valued, thanks to its diversified product line. However, the company has been witnessing continuously declining denim realisations since the beginning of FY06. As a result its net sales were flat while net profits fell 26 per cent in FY06.

Gokaldas Exports, the largest manufacturer and exporter of apparel, also looks richly valued based on P/E and EV/EBIDTA multiples. The stock looks cheaper based on EV/sales essentially because the garmenting business "� its mainstay "� is less capital-intensive.

However, due to intense competition in garments, its realisation and, hence, earnings have been less attractive. However analysts are bullish on the company due to its huge capacity and its presence right from the design stage. 
 

EV/EBIDTA (X)
	FY06	FY07
Gokaldas Exports*	14.45	11.66
Raymond	22.80	12.33
Welspun	11.01	7.64
Indo Rama Synthetics	9.35	6.03
Mahavir*	9.25	10.64
Alok Industries	8.78	6.91
Arvind Mills	7.38	8.53
Rajsthan Spinning	5.81	4.79

The largest cotton yarn manufacturer in the country, Mahavir Spinning Mills, looks cheap on the EV/sales basis. Nevertheless, it is trading at a higher P/E and EV/EBIDTA. The higher multiples look unwarranted as the company does not produce value-added products which earn better realisations. Moreover, it is exposed to the volatility of cotton prices.

The products of polyester major Indo Rama Synthetics and blended textile player Rajasthan Spinning and Weaving Mills (RSWM) also fall under the commodity type business. 
 

FINANCIALS
FY06 (Rs crore)	Net sales	Chg	Operating Profit	Chg
Mahavir*	1394.40	1.20	358.40	17.00
Indo Rama Synthetics	1870.91	-0.20	128.40	-38.70
Arvind Mills	1592.00	-3.80	398.90	17.20
Alok Industries	1419.00	16.00	296.10	24.20
Raymond	1324.00	16.00	189.00	87.00
Gokaldas Exports*	645.37	NA	68.40	NA
Rajsthan Spinning	959.60	30.70	92.90	55.00
Welspun	653.00	37.00	123.00	13.90
* 9 months ended FY06

Besides, they are also non-integrated, which results in thinner operating margins. Indo Rama faces the additional hurdles like the presence of the giant Reliance Industries as its key competitor, fragmented nature of the domestic market, global overcapacity and spiralling raw material costs on account of rising crude prices. The stock seems to reflect exactly these negatives.

RSWM, however, looks more promising and may be a good long-term, thanks to its expansion into garmenting and value added denims.

Alok Industries looks fairly valued on all parameters. But there is a caveat. It has about Rs 1700 crore debt in its book, a tad higher than even its market cap.

In a rising interest rate scenario, which now looks imminent, the company's profits may suffer. Alok Industries also has high equity base which dampens the stock price.