Branded Apparel Sector - Part 3

This is part 3 in the series of article discussing Branded Apparel Sector. The previous parts are here:

• Part 1
• Part 2

Zodiac Clothing Company

Zodiac is a 26 year old clothing company. The company mainly manufactured shirts but is now selling trousers and accessories like belt, ties and handkerchiefs too.

Financials

Company's average ROCE over the last five years was 20.35% with average OPM of 10.84% and average NPM of 6.5%. All three are showing an increasing trend. The company is virtually debt free with debt of INR 32.07 Crore and (Net current assets + Investments) of INR 112.31 Crore. The company's assets turnover ratio had averaged around 4.1 between 2006 and 2009 but was lower at 3.68 in FY10. The company's operating cash flow has remained positive for the last five years but is lower than its net profit.

The company's total income has risen from INR 68.2 Crore in FY2000 to INR 333.85 Crore in FY10, i.e. 17.2% compounded annually while the profits have risen from INR 8.02 Crore to INR 26.19 Crore, i.e. 12.56% compounded annually. Over the last ten years, company's total income declined only in FY10 by around 2.05%. Company's net profit declined in 2001 by 4.87%, in 2002 by 33.3%, in 2003 by 39.49%, in 2005 by 17.6% and in 2009 by 23.1%. So the highest top to bottom drop was 61.6% from 8.02 Crore in 2000 to 3.08 Crore in 2003. This shows that the company's products are almost recession proof but profitability is impacted a lot.

Promoters

The promoter shareholding in the company has fallen from 74% in 2004 to somewhere around 60.75% in the September 2010 quarter. Most of this is due to preferential allotment to investors in December 2004 to raise fund to create new manufacturing capacities and open new stores. The dividend payout ratio of the company has gone down from 52.94% of net profit in FY06 to 32.65% in FY10. The management seems able and minority shareholder friendly.

Mutual Fund Holding

As usual, a great small company is not owned by a lot of mutual funds. Only in the latest month, some manager from Kotak mutual fund got this company in coverage.

Valuations

Company, at its current market price of INR 407, is trading at almost 4 times its book value of INR 110. Based on consolidated profit of INR 26.2 Crore for FY10, the company is trading at almost 20 times earnings. Although this is cheaper than its peers like Page Industries, the absolute valuations are richer compared to its own historic valuations.

Page Industries

The company was incorporated in 1994 and sells innerwear under the brand name of "Jockey". It strictly does not compare with other companies like KKCL and Zodiac that were analyzed earlier but falls almost in similar categories. Its nearest competitor Maxwell Industries (brand VIP) is not good enough to be mentioned as an investment opportunity here.

Financials

The company's ROCE averaged 43.29% over the last five years with average OPM of 19.99% and NPM of 11.85%. All three are showing steady or increasing trend. The company is virtually debt free with debt of INR 54.77 Crore and (Net current assets + Investments) of INR 71.3 Crore. The asset turnover ratio has decreased from 6.4 in FY06 to 3.37 in FY10 but is not something to be worried about. Company's operating cash flow has always remained positive over the last five years but is lesser than the net profit.

The sales of the company has increased from INR 21.2 Crore in FY2000 to INR 339.4 Crore in FY10, i.e. 31.95% compounded annually.

Promoters

The promoters seem able and minority shareholder friendly. The dividend payout ratio has gone up from 48.65% of net profit in FY06 to 69.18% in FY10.

Mutual Fund Holding

A lot of mutual fund found this company very early and has invested and benefited greatly including HDFC, IDFC and SBI. This time I agree with them.

Valuations

The company pays a large part of its earnings as dividends and so the book value of the company is just INR 88.8. At current price of INR 1470, the P/B turns out to be 16.55 and P/E stands at 33.47. Looking at the last ten year growth of the company, the P/E looks reasonable. But the size of the company has grown, so I don't expect the same percentage growth for the next decade since the company would have to sell INR 5430 Crore worth of goods by 2020 which does not look easy to achieve. One of the biggest risk in investing in this company is that it sells a product it hasn't developed. The company has a franchisee agreement with Jockey International to sell its brand of products in India, Nepal and some other south-east Asian countries as well as Middle-east. The company's latest annual report does say that the contract will be renewed till the year 2030. This is similar to Hero Honda but looking back, investing in Hero Honda between 1995-2000 does not feel like a bad decision since investors have grown their money more than 25 fold during the last 10-15 years. The other risk is that of increase in royalty payments to Jockey. The company pays 5% royalty of its sales to Jockey right now which can increase in future the way it happened with Maruti recently.

Security Analysis is based on following two assumptions:
1. The market price is frequently out of line with the true value.
2. There is an inherent tendency for these disparities to correct themselves.
- Benjamin Graham