Rough texture

IPO REVIEW

Birla Cotsyn's IPO looks unexciting given its relatively smaller size, stiff competition and expensive valuations.

There is very little to cheer on Dalal street these days, with unmanageable inflation and political uncertainty compounding the impact of global meltdown on the Indian stock market.

But, that hasn't deterred a host of companies from coming out with initial public offers (IPO), the latest being Yash Birla group's Birla Cotsyn (India).

The company plans to raise Rs 144.18 crore by offering shares in the price band of Rs 15-18. The proceeds from the issue will partly fund its expansion programme (estimated cost of Rs 320 crore), which includes setting up of an integrated textile unit and a garment manufacturing plant at Malkapur in Maharashtra.

The funds will also be utilised for the company's foray into setting up of retail outlets across India.

Background
Incorporated in 1941, Birla Cotsyn has been engaged in cotton ginning, pressing and oil expelling (extracting oil from crushing the cotton seeds). After acquiring the assets of Khamgaon Syntex (I) in August 2006, the company entered into manufacture of synthetic yarn.

The company has taken forward integration initiatives to move higher up and across the value chain.

Having modernised the Khamgaon facility and increasing its capacity to 19,040 spindles, the company is now installing 1,728 rotors to produce cotton yarn. The latter along with 114 looms (at Malkapur unit) for manufacturing grey fabric is scheduled for commissioning in June 2008.

Expansion plans
At the integrated Malkapur unit, the company is also setting up 36,000 spindles for manufacturing cotton yarn, which is expected to commence production in December 2008.

A finished cloth (50,000 meters per day) and dyeing unit, also at Malkapur, will start production in July 2009, while the garment unit (Rs 25.2 crore) will start operations in March 2009. Gains of these expansions and integrated operations (at Malkapur) will only be felt in FY10.

The company also intends to set up 20 retail outlets across major cities in the country by early next year, although no concrete brand positioning plans are in place. The company has earmarked Rs 5.8 crore for the retail venture.

The government of Maharashtra has accorded the 'mega project' status to the Malkapur project, and the company is entitled to benefits like electricity duty exemption, stamp duty exemption, industrial promotion subsidy and other subsidies pertaining to employee benefits.

Also, the company's expansion plan is eligible for a five per cent interest rate subsidy under the Technology Upgradation Fund (TUF) scheme, all of which should boost margins.

Export focus
While the abolition of quotas on textile exports, anti-dumping measures, strong demand on account of domestic retail boom and beneficial demographics has had a positive rub-off, the rupee's appreciation has offset a good part of these gains.

According to the Confederation of Indian Industry-Ernst & Young Textiles and Apparel Report 2007, the Indian textile and apparel sourcing market is estimated to grow at an annual average rate of 12 per cent to $35-37 billion by 2011.

As far as Birla Cotsyn is concerned, in 2006, it entered into a 50:50 joint venture with PB Bhardwaj Group, which has interest in textiles and steel and has units across the world. This would give the Birla company access to newer markets overseas.

Birla Cotsyn currently exports 20 per cent of the total production to Turkey, West Asia and Europe. It hopes to increase the same to 50 per cent adding countries in South America, UK and Nigeria to its yarn exporting list by next year.

Concerns
With global cotton consumption expected to outstrip production, research firm CRISIL expects cotton prices to remain firm going forward.

While the company does not have cotton procurement issues as Khamgaon lies in the heart of cotton production, margins of textile manufacturers are going to be under pressure due to increase in raw material cost.

Although the Birla group has a rich experience of over six decades in the textile sector, the company has little to show for as far as garment manufacturing and retailing is concerned.

In the recent past, many companies in the textile industry have ramped up their capacities to encash opportunities arising from abolition of quota system (w.e.f. January 1, 2005) and the government-sponsored TUF scheme.

The company faces stiff competition from the more established players like Bombay Rayon, Alok Industries, Vardhman Textiles, Kewal Kiran and Koutons Retail. 
 

CHEAPER ALTERNATIVES
Rs in crore	Birla Cotsyn#	Alok Industries	Vardhman Textiles	Bombay Rayon#
Net Sales	82.93	2,159.30	2,387.70	763.30
OPM (%)	7.50	24.30	17.38	22.02
NPM (%)	4.10	9.29	5.65	11.84
FDEPS (Rs)	0.31-0.36	10.70	23.80	13.10
P/E (x) *	48.90	4.20	4.20	23.40
# FY08E estimates used as actuals not declared yet FDEPS : Fully Diluted EPS   * P/E calculated at Rs 15 for Birla

A delay in the proposed addition in capacities (already running late by 9-15 months based on project appraisal and revised schedule) or adverse currency movement also pose a risk to its earnings going ahead.

Financials and valuation
Although the company's revenue has increased by 55 per cent in FY08, contribution from trading income has doubled to 26 per cent of revenue.

This ratio is, however, expected to go down significantly, once the new manufacturing facilities become fully operational. There was a blip in the margins in FY08. 
 

BANKING ON INTEGRATION
Rs in crore	FY07	FY08E	FY09E	FY10EV
Net sales	53.50	82.90	207.00	282.00
Operating profit	5.00	6.20	26.90	52.20
Net profit	2.60	3.40	13.00	24.00
OPM (%)	9.40	7.50	13.00	18.50
P/E (x) *	-	48.90	12.70	6.90
* P/E calculated at Rs 15                                     E : Analysts estimates

That's because, the company was only engaged in manufacturing of synthetic yarn up to now, and the prices of synthetic polyester (an input) have firmed up by 25 to 30 per cent in the last one year following the rise in crude oil prices.

With interest rates surging northwards, this too, will mean higher outgo for the company as nearly half the project cost is being funded through debt (totalling Rs 154.6 crore).

Based on the company's estimated earnings for FY09 and FY10, the PE (at lower price band) works out to 12.7 and 6.9 times, respectively. But, with the more established players like Alok Industries and Vardhman Textiles trading at a P/E multiple of around 4, the issue pricing is way too high.

Rating agency CARE, too, has given an IPO grade of one on a scale of five, indicating below average fundamentals among others on account of moderate financial position and risks attached in executing its ambitious expansion plans.

Considering the low visibility of prospects at this stage, investors may be better off following a wait-and-watch approach and revisit the stock once the company executes its current plans and gains a firmer foothold in the apparel segment.

Issue opens: June 30
Issue closes: July 04