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ICICI Management Meet Note (March 20, 2017)
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http://content.icicidirect.com/mailimages/IDirect_ABFRL_MgmtNote.pdf
Company on track to revive LTL sales growth of Madura:
With the entry of new international brands in India, Madura has been seeing sluggish revenue growth rate in recent times. In addition to that, Madura has refrained from giving away aggressive discounts. However, to sustain stiff competition, the management has chalked out certain strategies- a) leveraging its Van Heusen brand by launching innerwear & Athleisure product categories, b) acquiring online and offline rights of Forever 21 to strengthen its foothold in the womenâs western wear segment and c) moving from two to four design cycles to improve freshness of stock and reduce inventory days. With above mentioned measures, management expects Madura to revive its LTL sales growth.
Restructuring of Pantaloons to aid operating margins:
Since the acquisition in 2013, ABFRL has undertaken various measures to revive Pantaloons- a) setting up a new in-house design studio, recruiting experts for product design, b) aggressively adding new stores, from 65 in FY13 to 179 as on December 31, 2016 and c) optimising the mix of exclusive and external brands to aid margins. Going forward, the management plans to add 50 stores on a yearly basis and continuously strive to increase its share of private label brands.
Disc: Not Invested. Interested
Edelweiss Q4FY17 Result Update
Detailed disclosure enthuses confidence that Madura is still doing well; sustenance key
âŚFor the last 4 quarters, we were disappointed by the Madura margins as prior to the merger with Pantaloons; Madura was reporting 12% margins which dramatically reduced to sub 10% post the merger. While the company stressed that margins were lower due to investments in Forever 21 and innerwear, the general feeling was that such investments could not result in a 200-400 bps margin fall. As the company has reported a segmental split this quarter, it was heartening to see that ex-Forever 21 and innerwear, Madura margins have come way above the 12% levels. This gives us a lot of confidence that Maduraâs performance has not deteriorated post the demerger, as widely anticipated. Also if at 0% SSG, Madura has reported 12% plus margins; we believe that if demand picks up, operating leverage would spur margins further. Sustenance of current margins will lead to a re-rating of the stockâŚ
Temporary blip in Pantaloons
âŚWhile the Pantaloons numbers are weak this quarter, they are expected to improve next year. A structural and directional change to a non EOSS model is underway. This strategic shift will see Pantaloons move to 4 seasons in a year as it pursues its strategy of value fashion all year round. This strategy is important as generating strong volume and SSG growth all year round is most important for a higher fixed asset retail model like Pantaloons. Pantaloons has been aggressive as they have opened 70 stores this year, taking the count to 210 stores which is a 50% expansion in 1 year. Also 28 of these stores are on the franchisee model (14 opened in Q4FY17 itself), which should help boost the RoCE of Pantaloons in the long run and also shows the strength of the brand.
Franklin Templeton Seems to be greatly bullish about the prospects. It is gradually upping its stake in most of its premier equity funds. Net holding increased from 2.846% to 5.708% in one year.
Source:
https://www.valueresearchonline.com/stocks/snapshot.asp?code=22048
https://www.valueresearchonline.com/funds/comres.asp?code=22048
Overall, YoY from FY15 to FY17 the business is reducing net losses.
Few encouraging developments:
1- Launch of menâs innerwear, loungewear and leisurewear under the Brand Van Heusen.
-Breakeven does not seems to be possible by the end of End of FY18.
2- Acquisition of the rights of the global Womenâs fast fashion brand, Forever 21.
-EBITDA level breakeven may be possible by the end of End of FY18.
3- Signed up with international brands Simon Carter and Ted Baker for the Indian market. These brands will be launched in FY 2017-18.
4- Company reduced the average borrowing cost from ~9.3% in previous year to ~7.7%.
Not so good observations:
1- Depreciation: Amount reduced by 96 crores in FY17 as compared to FY16 as the company reassessed the useful life of leasehold improvements and immovable fixtures for its Pantaloons business. In turn, business turned profitable due to the above change.Any comments?
2- Sales and EBITDA Growth is highlighted in the all the communications from the company. EBITDA Growth seems a strange parameter to be highlighted. Or is it only me who has this feeling?
3- Debt is at around 2000 Cr and does not seem to be coming down anytime soon.
Please do share your notes in case you follow it closely.
Disc: I hold.
The company bagged exclusive rights to retail American Eagle brand in India. ET Link
How popular is American Eagle? Frankly speaking I havenât heard of them.
I can share my experience about American eagle. When my husband was in USA during 2010-11, he had his jeans and t - shirts from this brand. As per him, it fits nicely and durable.
Co also sell garments under the brand âUrban Eagleâ in Pantaloon retail stores.
Amit
If I remember correctly, American Eagle sued ABFRL for using the the brand name Urban Eagle, which according to them sounds very similar to theirs.
As I am rechecking the story (as Madura and Pantaloon merger has settled and I am running out of patience as this bet is yet to pay off), I could not stop myself to highlight the blunder I did in the above comments?
In FY17, company made a net profit of 53.50 Cr. ( although I assumed it 51.184 Cr in the highlighted note) with an EPS of Rs. 0.69 ( calculated EPS as 5.52 in the highlighted note)?
Where did I go wrong?
The total no of shares ( I assumed share count as 9.3 Cr, Pre-merger, instead of 77 Cr, Post-Merger) 
âŚLesson learnt!!!
Beside that the sales of Madura division in FY17 is around 4100 Cr. Still, I am unable to understand that how it used to be 5450 Cr in 2014-15 when Madura was part of AB Nuvo.
On a lighter note, companyâs PE has exceeded my estimate of 20. With EPS of 0.69, itâs available at PE of 200+ 
âŚThe Kind of PE expansion which does not make money for an investor!!
It was a private venture of a privately held AB company and not owned by ABFRL. Best Regards
I think this partnership will emerge as big competition for ABFRLâŚ? Unless ABRFL has some strategy to combat online giantsâŚSlowly in USâŚretail Brick n mortar store sales are declining and Amazon joining hand with Shopper stop will be big threat to other retailsâŚViews welcomeâŚ
Disc : Invested in ABFRL
My notes from Q1 FY18 concall -
Lifestyle (Retail + Wholesale)
Sales @ 891 cr
EBITDA @ 64 cr
EBO network at 1,741 EBOs and 187 value store. Have opened 36 stores and closed 54 stores in this quarter. Looking to add 100-150 more stores this year
GST has negatively impacted by 1.5-2%
Pantaloons (Pure Play Retail)
Sales @ 731 cr
EBITDA @ 46 cr
213 stores (40-50 more stores this year)
GST has positively impacted this segment by 2-3%
Fast fashion (very competitive segment)
Sales @ 120 cr
EBITDA @ -14 cr
Forever 21 (18 stores) (looking to add 8-10 stores this year) (should be break even at EBITDA level by EOY)
People (90 stores) (looking to add 15-20 large format stores) (losses should be trimmed by EOY)
Still trying to figure out the right business model.
Other (Inner-wear)
Sales @ 39 cr
EBITDA @ -13 cr
Outlets - 2000 (9000 outlets by end of this year)
Debt
1800 Cr (will be back to 1900-2000 cr in next few qtrs)
Cost of funding - 7.83%
Ted Baker
Unlikely to have any meaningful impact in terms of scale and size due to very high price point. 40-50% premium to Louis Phillip)
The sales increased from ~1400 cr to ~1700 cr YOY, but EBITDA remains ~70 cr. Whereâs the moat that was supposed to contribute to bottomline with improved topline? This is a galaxy of brands, yup⌠but when will this get reflected in numbers? Still a few years away it looks?
I think the bottomline in 2016-17 has improved due to lower depreciation.
From the date of acquisition (acquisition costed 177 cr), Forever 21 has contributed Rs. 200 Cr of revenue and Rs. 59 Cr to the loss before tax of the Company. If the combination had taken place at the beginning of the year, revenue from operations would have been Rs. 267 Cr and loss before tax for the Company would have been Rs. 80 Cr.
There is no moat in this business even with the presence of power brands and it seems that few more years are needed before it becomes profitable at bottom line.
Here are my notes from recent re-check of the story:
1- In order to protect the brand value, calibrated discounting approach for the Mudra brands in the environment of heavy discounts by competitors is the reason for subdued sales of the Power Brands Portfolio. Is this going to improve anytime soon needs lot of assumptions or forecasting? On the other hand, business of pantaloons has scaled up really well and Franchise route to open new pantaloons stores might reduce the capex for this business. Further, company is incubating the businesses such as Forever 21 and Inner wear (VH brand).
2- Debt on the face of the Balance sheet is ~ 1800 crores. But do keep in mind to add up another 50 %, the debt which is off-balance sheet- Future minimum rentals payable under non-cancellable operating leases of 874.51 Cr. (Within one year 198.64, After one year but not more than five years 616.38, and More than five years 59.49). On the positive side, finance cost has reduced from 9.3% in FY16 to 7.7% in FY17, Debt Reduction plan is staggered and majority of the debt to is Long Term.
3- Diluted focus from the group/promoter as they are in to too many industries.
Overall, Itâs difficult to reach to a healthy bottom-line number in the context that the business paid an interest expense of ~ 180 Cr. and did a capex of 429.23 Cr; 259.21(Madura Fashion & Lifestyle) & 170.02(Pantaloons) in FY17. On the top of that, more capex is needed to keep that existing channel up to the mark and establish the new businesses Forever-21 and innerwearâs under VH brand.
Disclosure: I hold the stock in my portfolio and still looking for reasons that should let it be a hold instead of a fold as I am not able to find reasons that will improve the business in the near term.
Hi @Surender - Lifestyle segment numbers include that of FF segment. So, bottomline is taking a hit. Forever 21 is a good brand. With this attaining break-even at EBITDA levels by q4 would help improve Lifestyle segmentâs margins quite a bit. See, Forever 21 is posting 80 cr loss at EBITDA level (yearly). Mgmt was pretty positive on attaining break-even by q4; so, if this loss goes away, it will add ~ 2% to the net margins.
Another reason why Madura is struggling is due to the onslaught of cheap online sales. In the last concall mgmt said there is some sense of rationality sinking in with this online discount model, but with the current 4 days online sale (ending today) by online retailers, i do not think this model is going to stop anytime soon. Madura has to be competitive and hence have to give discounts despite the brand recall.
As you said, they are doing on well with their Pantaloons division. They are posting close to 6% EBITDA at the moment in this deivision. With more stores coming in (40-50 per year), will economics of scale kick in? Franchisee model here will certainly help improve the return ratios.
I am positive on this company due to the following reasons.
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Moat is there (although not showing in the numbers yet). We need to see their vast network and how quickly they can scale up a brand. Take for instance their inner-wear segment. They just started this not very long ago and are already selling this at 2000 sale points. They are targeting 9000 sale points for the same by EOY.
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4 season model will help them manage their inventory better. They commented on the same in the concall saying they feel they are in better control of the inventory with this model.
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Interest costs coming down will save almost 35 cr at PAT level.
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Depreciation, well, they have changed the useful life calculation. I agree, this is odd, but i am not sure if that is okay. Anyways, this doesnât change things much as what i am seeking is improved operating cash flow, which is not going to get impacted due to this.
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Madura has been their cash cow while Pantaloons is burning the cash. In a few years, looks like Pantaloons will start adding to the bottomline as well, which would aid the overall numbers. Have they even commented what sort of EBITDA margins are they targeting for Pantaloons and when is this division will get break-even at PAT level? (Today, Shoppers Stop commented they are targeting 8% operating margins.)
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Regarding brand as a moat, establishing three 1000 cr plus brands isnât easy at all. Brand building takes time and money. At some point in time economics of scale will kick in. They are trying to find the right balance and are rationalizing the stores (size/category, etc). In the last qtr, they closed 54 Madura stores, while adding 34 new ones. They said they are at the very tail of this exercise. Probably they are closing stores which are not doing very well. Regarding Pantaloons, they are almost there in terms of store rationalization.
By the way, regarding valuation, i tend to make mental models. What p/e will you give to this business in a bull market/bear market? 40-50 times trailing? With current market cap of 12000 cr, and at 40 p/e trailing, this is discounting PAT of 300-320 cr. :-). So, yes, definitely overpriced.
I understand it is quite frustrating to hold on to a story which has potential but is not going anywhere. I got these shares from AB Nuvo demerger. I think there is still some pain left (a year or two). Post that, they would be in a better position.
Mridul, I appreciate the notes you shared.
I am still not able to comprehend that how this business has any moat/Competitive advantage. First and foremost, moat should reflect in the form of solid ROCE and business should fall in one of the categories among Switching Costs, Networking Effect, Cost Advantage (due to Novel Process, Better Location, Unique resources, and the economies of scale). Even the intangibles i.e Brand in this case cannot be termed as a moat as it does not enable the company to influence the behavioral aspect of a consumer because of which company can charge premium and customer keeps up doing repeat buys. Clothing is a discretionary product and the market is full of substitutes that are better priced.
Inner-wear segment needs to go a long way before any tangible benefit comes to bottom-line. Per say one of the concalls, this does hold promise due to the fact that most of the expenses are variable costs and could be easily contained once the business attains a certain scale.
One more positive is that company has tax losses worth 1178Cr, which should enable the company to avoid taxes whenever it turns profitable.
Sir, even in case of carried forward tax loss, the company need to pay MAT @ 21.342%.
Quarter results out.
Net loss of 10 Crore