Year of spinning profits

Backed by improving profitability, cotton yarn manufacturers may well turn out to be money-spinners this year.

Cotton yarn players had a bull run in the past one year as stock prices of most of the companies "� big and small "� were sizzling on the bourses.

For instance, share prices of larger players like Mahavir Spinning and Nahar Industrial Enterprises, and even smaller ones like Shiva Texyarn and Gangotri Textiles have zoomed over 100 per cent since April 1, 2005. 
 

MONEY SPINNERS
Company name	1st April 2005	26th May 2006	Chg	P/E*	Net sales growth*	Operating  profit*	Net profit growth*
Mahavir Spinning#	183.40	362.00	97.40	12.10	2.10	391.40	23.90
Nahar exports	67.00	93.00	38.70	8.10	-13.30	74.20	12.30
Ginni Filaments	20.50	18.10	-11.50	9.00	-11.50	20.00	176.00
Malwa Cotton Spg	69.50	180.90	160.50	5.20	-0.60	57.10	145.10
Super Spinning	248.30	446.00	79.60	11.00	5.10	59.00	31.10
GTN Industries	57.80	33.60	-41.90	7.30	-0.10	24.40	-15.30
Precot Mills	370.3@	350.00	-5.40	12.00	-5.00	16.70	62.50
Nahar Indl. Ent.#	62.80	188.00	199.40	7.80	14.30	146.00	51.10
Forbes Gokak	266.00	639.00	140.20	21.20	-1.60	74.50	77.80
Nahar Spinning	210.50	275.50	30.90	27.60	0.90	58.80	-17.90
Shiva Texyarn	21.60	51.10	136.00	12.40	-4.00	40.90	-39.50
Gangotri Textiles	19.70	46.80	137.00	5.80	-20.20	16.90	18.00
Trailing 12 months*, @as on 19th August 2005, # FY06

Even as they have been the biggest money-spinners in the stock markets, there is a lot of steam still left in majority of these companies, feel analysts.

Dhawal Doshi, a textile analyst at Stratcaps Securities Pvt Ltd, says: "Rising export of Indian garments and home textiles is one of the primary reasons for the strong domestic demand for cotton yarn. Besides, there are also stock-specific reasons."

For example, the merger of textile business of Nahar Exports with Nahar Spinning is very positive for the combined entity, and this has led to the appreciation of their share prices. Similarly, Super Spinning is gaining investor interest for its initiatives in the contract farming for the steady supply of raw material.

According to US-based Office of Textiles and Apparel (Otexa) data, India's exports of cotton apparel and cotton non-apparel to the US grew more than 40 per cent and 7.5 per cent, respectively, in 2005.

Overall exports also went up substantially "� about 30 per cent "� in the same period. Domestic cotton fabric production, which is a good indicator of domestic demand for cotton yarn, rose about 4.5 per cent in April-February 2005-06, after clocking a growth of 14.5 per cent in 2004-05.

Adds Sejal Doshi, CEO, Finquest Securities: "The reason for the buying interest in cotton yarn companies is expectations of high volume and profit growth following the anouncements of their expansion plans. Further, the cotton prices, too, are expected to remain stable and provide stability to margins."

Kapil Bagaria of Sushil Stock Broker Pvt Ltd echoes a similar view: "A majority of cotton yarn companies are seeing improving operating profit margins, which, in turn, are improving their net profits and EPS."

Bottom lines of most of these companies have soared and margins expanded substantially in FY06, though revenue growth was marginal. For example, revenues of the largest cotton yarn player, Ludhiana-based Mahavir Spinning Mills, inched up only 2.1 per cent to Rs 1,889 crore in FY06.

On the contrary, EBIDTA (including other income) shot up 23 per cent to Rs 391 crore and margins improved by 200 bps at 18 per cent. Even in the case of a small player like Eurotex Industries, which has about 53,500 spindles, though net sales went down 22 per cent in the first three quarters of FY06, operating profits soared 24 per cent and margins zoomed by over 500 bps at 14 per cent.

According to industry sources, even single-digit growth in sales should be considered "a substantial improvement" as the cotton yarn industry had been in the doldrums in the past decade till 2004-05.

Slower revenue growth was attributed to the fact that though volumes and operating rates were high, the average cotton yarn price (predominantly coarser counts that account for more than 50 per cent of total production) declined about 2 per cent owing to rub-off effect of lower cotton prices. A count is the thickness of yarn.

The average price of cotton "� the main raw material accounting for over 50-55 per cent of net sales of a spinning company "� slumped over 7 per cent in the cotton season 2004-05 due to large supply. In the case of short and medium staple varieties such as H-4, Shankar-6 and MCU-5, they declined 5-10 per cent.

According to data provided by Textile Commissioner's Office, domestic cotton production reached a record level of 243 lakh bales (170 kg each) "� growth of over 30 per cent in cotton season 2004-05 (Oct-Sept).

Thus, raw material cost of spinning companies were impacted in 2005-06. Cotton supply, including imports, also grew at a similar rate while the demand increased only 10 per cent.

India predominantly produces short staple varieties used mainly for coarser and medium counts and largely imports long staple varieties from countries like Egypt, Sudan and America for producing finer counts.

Domestic consumption is the major factor driving the robust demand for cotton yarn. Indian cotton yarn is exported mainly to countries like Europe, Sri Lanka, Bangladesh and China.

According to D K Nair, Secretary General, Confederation of Indian Textile Industry (CITI), "These countries, except China, have witnessed stagnant or marginal growth in exports of their finished products "� mainly garments "� to developed countries like the US in the post-quota regime, which has, in turn, led to slower growth in India's yarn exports."

Going forward, exports may increase only marginally as players may find the domestic market more remunerative, he adds.

Cotton yarn players are expected to enjoy the expansion of margins for one more year, say industry experts. Mohit Jain, Director, Indo Count Industries, says, "Gross margins are expected to improve by 300-400 bps at 15-20 per cent this year."

Cotton yarn prices, which have been slightly on an uptrend due to increase in cotton prices since September 2005, are unlikely to come down (See chart ' Price Movements'). Power costs "� the next most important cost component of a spinning company "� have also risen about 20-25 per cent owing to higher fuel oil prices.

Kamal Oswal, vice-chairman and managing director, Nahar Industrial Enterprise, agrees: "Cotton yarn prices may go up 2-3 per cent. Moreover, domestic demand for cotton yarn is robust for both coarse and medium counts. There are a lot of knitting and weaving capacities coming up, but spinning capacities are not catching pace because of lack of machinery. Thus, overall, margins are expected to be better for the industry."

According to Otexa figures, in 2005, the US imports growth of knitted men shirts and women shirts from India was 83.5 per cent and 184 per cent, respectively. The same was 31 per cent and 106 per cent in the first quarter of the calendar year 2006.

According to Sakthivel, President of Tirupur Export Association (TEA), the growth in exports of Indian knitwear garment, which forms about 85 per cent of domestic production, is expected to continue recording a similar rate of about 30 per cent in CY 2006, as in CY 2005. This could translate into a demand growth of 27-28 per cent in cotton yarn, which will be mainly met through domestic production.

Cotton yarn prices have increased 6-8 per cent over the past few months. The average cotton price has risen about 14 per cent, largely owing to an over 50 per cent rise in prices of extra-long staple varieties such as DCH-32, growing domestic consumption and a three-fold rise in cotton exports of 30-35 lakh bales, mainly to China.

However, there is no cause for worry. Even as exports of cotton are expected to more than double to around 30 lakh bales and the domestic demand is likely to grow at 10 per cent in cotton season 2005-06, total supply is expected to far exceed at 16 per cent growth, largely led by huge inventory levels of the cotton season 2004-05.

P D Patodia, Chairman, Cotton Development Research Association, says, "We expect cotton prices to remain at the current levels, as most of the exports have been over. But growing domestic demand is providing support."

Textile analysts too agree that there is likelihood of the yarn industry's profitability improving. Spinning companies are also available at attractive valuations and are good long-term bets. However, analysts are selective about picking stocks, especially after the mayhem last week. But here ae some stocks that look interesting.

Mahavir Spinning
The company has planned a mega investment of Rs 1,700 crore spread over FY05-08 in order to rev up its processed fabric capacity to 43 million metres and spinning capacity by 75,000 spindles from about 28.5 million metres and 4,69,000 spindles respectively.

It has also planned a greenfield expansion project to be fully operational by December 2007, whereby it will set up a 50 million metres processed fabric capacity, 2 lakh spindles and coal-based 25-MW captive power plant. This move is expected to reinforce its leadership in the yarn business and also facilitate vertical integration. The largest cotton yarn player trades at a trailing 12 P/E of 12 times.

Nahar Group Companies
The industrial activity of Nahar Exports (NEL) "� yarn "� will be merged with Nahar Spinning (NSML), engaged in yarn and cotton and woolen garments. The investment business of NSML, will be transferred to a new company Nahar Capital & Financial Services (NCFSL).

NSML and NEL are trading at a trailing 12-month P/E of 28 times and 8 times respectively. The merger would lead to strategic overhauling and consolidation of their businesses.

Another Nahar group company, Nahar Industrial Enterprise (NIEL), one of the major integrated textile companies, is on an expansion spree and has earmarked Rs 814 crore for the purpose.

The company plans to increase its capacities of spinning by 18.2 per cent to 1,88,448 spindles, rotors by 37 per cent to 7,680, grey fabric by 67 per cent to 2,50,000 metres a day, looms by 59 per cent to 676, processed fabrics by 100 per cent to 2,00,000 metres, garments by 100 per cent to 4 million pieces and retail stores from the current 70 to 200 by FY08 (end of FY07).

NIEL also plans to set up a cogeneration power plant of about 53 MW in the next few years and come out with an FPO (follow-on public offer) by September this year. The stock trades at a trailing 12-month P/E of 8 times and 10.6 times for FY07.

Super Spinning
The Coimbatore-based, fine-count cotton yarn player has chalked out plans to enlarge its spinning capacity from the present 1.35 lakh spindles to close to two lakh spindles by the end of 2007 through a combination of acquisition of running spindles and new spindle investments.

Recently, it clinched a Rs 30-crore deal to buy out a spinning plant in Turkey. Also, the company's board is scheduled to meet on June 2 to consider raising funds through GDRs/FCCBs or the preferential allotment route and also to consider a stock split. The stock trades at a trailing 12-month P/E of about 11 times.

Precot Mills
The company, another Coimbatore-based cotton yarn player, plans to merge its group company Meridian Industries "� an unlisted textile company "� with itself in the ratio of 1:2. Post-merger, the company's spindleage will go to 2,00,000 spindles from the present 1,26,000. The merged entity plans to invest Rs 140 crore over the next three years.

Besides, it has also acquired 32,256 spindles from Philippines-based Litton Mills, which will be installed in Pollachi to be operational by January 2007. And it plans to install 400 stitching machines with a capacity to produce 4 million pieces annually to be operational by April 2007. This will double in the second phase. The stock trades at a trailing 12 month P/E of 13 times.

Ginni Filaments:
The company's foray into the non-woven fabric business is expected to be a major growth driver in the future. Needless to say, it is already in a stable business, i.e. traditional cotton yarn.

It is aggressively planning to foray into the non-woven fabrics sector in the segment of the wipes for the face, baby bottoms, women and hospitals, which is at a nascent stage in India.

Further, the company is also considering entering the medical equipment space using the innovation unit under its consumer products division. The stock trades at a trailing 12-month P/E of 9 times.