Very detailed thread. Took almost a day to go through everything and another 2-3 days to understand the business. Went through almost all the material available on the company. Trying to write for the first time on this platform, kindly excuse if I get a bit verbose…
Won’t harp upon KCL + KGL issue.
Main concern which I find about this company for the next two-three year perspective is
- Currently margins which are highest in the industry and as well as in the history of Kitex. I tried to run some scenarios and find that growth is not a big risk to the company (even 10% would be fine) but margins which used to be around 19% (median of EBITDA post 2010 considering prior to 2010 the business was weak) and now have increased to 35% kind of levels in FY16. Playing on the bear’s side, if I just decrease the EBITDA margin to 25% (25% higher than the historical median), my 2 year PAT growth is 0% CAGR. This is when I am growing the sales by 20%. Not to mention the higher forex gains which the company has generated in FY16 and while giving out the guidance Mr. Sabu includes the forex gain/ losses as well (this may very well be 0 or at worst be negative).
The biggest way to prove the above statement wrong is by proving that the current margins are sustainable. Hence I went through all the con-calls, reports, Valuepickr thread, but nowhere I could find something which could logically explain this quantum of margin expansion (that too only in two years time…look at FY14 ) The reason management has been giving is technological advancements, focus on productivity and better capabilities than competitors (please point out if I have missed any logical explanation).
Now one can argue that in FY14 the company has increased the capacity of fabric which would have led to cost efficiency or lower waste. To this my question why in its entire history, the company has not shown this kind of margins in any quarter. Even after FY10 when fabric capacity was there to meet the internal requirements of fabric, EBITDA margins at best were like 22% in Q4 FY12 (pl note that I don’t include other income in my EBITDA calculation).
I request anyone who can give me some logical explanation towards this margin expansion. This could be in the form of 1) lower raw material cost due to fall in prices of yarn/ cotton 2) Lower raw material consumption due to better machinery and productivity or similar kind of design orders 3) realisation improvement 4) ???
I understand that growth is a big question for the long term prospects of the company, but if the current margins can sustain and growth rate becomes a bit slower also, I would be happy to be with the company. Growth area is anyways in this thread quite extensively and I believe unless I have the real sales figure for the quarter, I can hardly add any value on this
Some observations other than the above-
Inventory as % of raw material consumed during the year used to be around 30 to 40% levels prior o FY13 but from FY14 onwards it reduced amazingly to 5-6%. Component wise most of the fall is due to raw material inventory. What explains this sudden fall of raw material inventory?
Company says that while entering the contract with the buyer, KGL, based on the current yarn prices, enter into the supply contract with the buyer and yarn price is a part of the pricing formula. Once the order gets confirmed, KGL enters into the contract with the yarn supplier (in terms of this much yarn to be supplied in this time period). So wanted to check whether the company is able to book the future supply of yarn at the pre-determined prices (at the time of order booking) and if it is able to procure yarn at those pre-determined prices? Is there a case where a vendor backs out incase prices go up or he supplier a lower variety of cotton yarn? How is different than hedging (entering into forward contracts) If this is the case, then margins should at least be stable or increasing in nature since the downside is always protected?
Any cost analysis done on company importing the US yarn vs the current practice of using domestic?
Disc - Invested (5% of the portfolio). Position acquired in Feb.