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The shares of Arvind Limited, Ahmedabad-based textile company, which had paused for three years after rallying strongly between 2009 and 2011, have since surged from Rs 67.60 (its 52-week low on August 8, 2013) to Rs 336, close to its all-time high in April 1992.
This rally, specially since January, is proof of the Arvind story clicking with investors. According to the company, the story is of building on its success as a textile and denim player and striving to become a brands, retail and garment company as well.
"We took two key steps, a clear strategic direction and focus on operational excellence," says Jayesh Shah, director and chief financial officer.
"While we are on a strong footing globally on operational excellence in textiles, we continue to strive for greater heights. In brands and retail, we are building a business that meets global standards of retailing and supply-chain capabilities."
Besides, it has de-merged the real estate business to de-risk its investors. New areas of business have been identified to push growth. These include the launch of the e-commerce business and expansion in technical textiles, to cater to business-to-consumer (B2C) and business-to-business (B2B) operations, respectively.
The brands and retail business have contributed significantly to Arvind's re-rating story. It has established strong partnerships with global brands like Tommy Hilfiger, Debenhams, Nautica, Next, Hanes, GAP and others.
Even as the textile business, two-thirds of revenues in FY14, continues to do well, analysts expect its brands and retail business (28 per cent of revenues) to be a key growth engine.
Other factors that have contributed to the rally include delivering results and meeting/beating investor expectations; macroeconomic factors like favourable currency, cotton, political stability; higher coverage by top analysts; and marquee/foreign institutional investors (FIIs). At the end of the June quarter, FIIs owned 23.3 per cent of Arvind compared with 15.7 per cent at the end of the September quarter. Promoter holding remains stable at 43.5 per cent.
"Though we believe this is a long journey, in terms of capital allocation, there is greater focus on asset-light businesses like brands and garmenting which also strengthens the fabric business model. Our textiles business is also becoming more differentiated on capabilities in the global context," Shah says.
It is a strategy similar to what Arvind initiated in the 1990s, of balancing B2B and B2C businesses (though majorly in denim).
The company expects to reach $3 billion in topline by FY19, with $1 billion targeted to come from brands. The major growth drivers will be B2C businesses, growing at 30-35 per cent annually, whereas large growth will be led by garmenting operations in textiles. Arvind expects the e-commerce business to contribute Rs 1,000 crore to its revenues in three years.
In a report last week, Niket Shah and Atul Mehra of Motilal Oswal Securities said, “We believe Arvind’s foray in e-commerce will provide a huge edge, given its backward integration into textiles and its strong expertise in supply-chain management. We believe the tie-up of GAP and Childrensplace complemented by the launch of e-commerce and restructuring makes a strong case for re-rating.”
The management believes branded garments business is the only category where e-commerce players are earnings before interest, tax, depreciation and amortisation (Ebitda)-positive, which means it should contribute to profits from the start.
The challenge that Arvind still faces is the level of debt at nearly Rs 3,000 crore, reflecting a consolidated debt-equity ratio of 1.27 at the end of FY14. However, the company is confident that over the next two-three years, it will grow in absolute terms but reduce leverage. Measures to turnaround MegaMart, its apparel retail stores, over the next two years should add to Arvind’s profits.
While Arvind is planning a Capex of Rs 400-500 crore for the next three-four years, it will be funded through operating cash flows. "Beyond this, we also have Arvind's land bank that we will continue to monetise opportunistically," Shah adds.
Analysts expect land (not a part of the demerged real estate business) monetisation to fetch up to Rs 500 crore.
As a result of these initiatives and driven by brands and textiles expansion, analysts at Standard Chartered Securities expect Arvind's return on capital employed to improve by more than 300 basis points over FY14-17 to 23 per cent. They also believe Arvind's brands business could list around FY17-18. Such a move could help unlock value for shareholders.
Most analysts remain positive on the company. The flip side is the average target price of Rs 289 of analysts polled by Bloomberg since July, which indicates that the good news priced in. Arvind’s scrip now trades at 18.6 times FY16 estimated earnings, more than double its historical average one-year forward PE of 7.2 times. While the price of its key raw material cotton is on a decline, execution in brands business is the key risk. Investors with a long-term horizon can consider the stock on a meaningful correction.
