>ARVIND MILLS: Multiple drivers

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With a strong portfolio of 21 brands and aggressive 23.9% CAGR in retail expansion at 1.58mn sq ft, we expect Arvind’s brands and retail business to show 25.6% CAGR over FY11-14E at Rs19.1bn and increase its share from 22% to 32.7% over the same period. Positive result of major capex of Rs4.3bn over FY11-12 would be visible in FY13-14. Its stock is currently trading at 6.5x/4.9x FY13/14E P/E and 5.2/4.2x EV/EBITDA, below the mean of 8.1x and 6.5x, respectively. Strong 12.4% revenue CAGR aided by 104bps higher operating margin, working capital efficiency and debt reduction by 26.5% should drive profitability CAGR by 45.6% over FY11-14E, generate free cash flow of Rs5.2bn over FY13-14E, improve adjusted RoCE by 303bps over FY11-14E and calls for expansion of PE multiple. We assign a Buy rating to Arvind with a SOTP-based TP of Rs117, valuing it at 9.1x/6.4x/1.2x PE, EV/EBITDA, P/B for FY13E.


■ Lower debt, interest rates to drive profitability: Bumper cotton production led to softening of prices, which would reduce Arvind’s ex-cash working capital requirement to 26.8% of sales in FY14E from 28.3% in FY11. Free cash flow of Rs5.2bn over FY12-14E would reduce its debt by 26.5% to Rs16.2bn and its adjusted D/E ratio from 1.6x to 0.6x over FY11-14E. Lower debt, falling interest rates and improved credit rating would prune interest costs from 6.4% to 3.3% of sales over FY11-14E and drive net profit CAGR by 45.6% over the same period. Monetisation of real estate assets, as and when it happens, would sweeten its cash flow and debt reduction programme.


■ Fast paced growth of B&R business: From a denim producer for corporate clients, Arvind is turning into a brand power house catering to consumers directly. Aggressive retail expansion, growth through multiple drivers like distribution expansion, new brands launch and category expansion would drive the brands and retail (B&R) division’s revenue CAGR by 25.6% to Rs19.1bn and increase its revenue share to 32.7% from 22% over FY11-14E. We expect its operating margin to rise by 140bps to 9.5%, which would increase segmental RoCE by ~109bps to 14.0% over FY11-14E. 


■ Strong free cash flow and return ratios: With the decline in cotton prices and hence working capital needs, a 104bps improvement in operating margin over FY11-14E and lower capex, Arvind should generate positive free cash flow of Rs5.2bn over FY13- 14E. Following weak demand, we expect the performance of its textile and retail divisions to remain muted in 1HFY13, thereby pruning consolidated margin by 20bps to 14.2% and RoCE by 96bps in FY13E. However, with the revival in demand and soft cotton prices, its revenue should grow 14.3%, operating margin should improve by 40bps and RoCE by 123bps in FY14E. Adjusted RoCE/RoE should improve from 11.7%/11.0% in FY11 to 14.8%/18.3%, respectively, in FY14E. Positive free cash flow from FY13 onwards and improving return ratios should drive up the valuation multiple.


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