Arvind Mills: Denim blues

Prospects for the denim business aren't too bright and the retail segment could take a while to contribute more to profits.

Lower denim volumes and higher cotton prices took 370 basis points off Arvind Mills' operating margins in the March 2008 quarter, driving them down to 10.8 per cent. The Rs 2,655 crore textile player's margins were also impacted by the rollout of new stores and expenses incurred on pushing apparel brands.

However, branded apparel sales were up smartly and helped Arvind post a good 35 per cent increase in revenues. While denim prices recovered in the March quarter to Rs 105 per metre, supply continues to exceed demand in the home market.

While demand is growing, the pace has slackened over the past few months. Besides, cotton prices are rising and were up about 6-10 per cent sequentially.

That combined with slowing retail demand in the US markets and a volatile rupee makes the outlook for the denim business""which accounts for a third of Arvind's consolidated revenues""somewhat subdued.

The branded apparel business, a focus area, is gathering pace with revenues up 34 per cent""post the demerger of key brands Lee Wrangler to VF Corporation.

The company plans to set up more Mega Mart discount stores, of which there are around 85 currently, some in a larger format. Over the next five years, the company is looking at around 275 outlets and plans to spend Rs 400 crore to expand its retail presence.

Revenues for this business should grow at just about 24 per cent compounded over the next couple of years. However, while the segment is profitable with operating margins at 11 per cent, costs are likely to go up on account of rising rentals, expenses on brand building and new stores.

While there could be some value unlocking for the company from the sale and development of real estate, with the proceeds being used to repay some debt, the prospects for the core business aren't too bright.

Moreover, it could be a while before the retail business contributes significantly to earnings. At the current price of Rs 50, the stock trades at just under 32 times estimated FY09 earnings and is expensive.

ACC: It could get worse

Cement stocks Ambuja Cements and Grasim were close to 52-week lows on Tuesday with the government wanting to control prices. The industry, however, is grappling with rising costs of power & fuel : domestic coal prices, at Rs 1700 per tonne, have risen nearly 15 per cent over the past year.

That's why India's biggest cement manufacturer, the Rs 7,067 crore ACC's March 2008 numbers were a tad below expectations. While the numbers are not strictly comparable, ACC's operating profit margin (opm) slipped 410 basis points to 26.2 per cent even as net sales rose just over 7 per cent to Rs 1,796 crore.

In better times during CY 07, ACC's consolidated operating profit margin expanded 350 basis points to 27.3 per cent, as it kept a tight check on operational costs like freight.

Rival Ultratech Cement's opm improved 260 basis points to 30.5 per cent in the March 2008 quarter, helped by realisations that grew an impressive 16 per cent to Rs 3,372 per tonne.

ACC's cement despatches in Q1CY 08 were higher by 7 per cent though net realisations, estimated at Rs 3,300 per tonne levels, were flat.

Going forward, the underlying concern is the addition to cement capacity, as the industry is expected to add another 20 million tonnes in capacity over the next 12 months. In addition, the recent ban on cement and clinker exports could add another 4-5 million tonnes to the supply.

That might well result in a surplus of 10-11 million tonnes in the market, observe industry watchers, predicting that prices could come off by as much as 10-15 per cent.

At Rs 683, the stock ACC trades at 10.4 times estimated CY 08 earnings and should be a under-performer. Ultratech at Rs 666, trades at 12 times estimated FY09 earnings and is expensive given the less than promising outlook for the sector.