Conversation between two friends, Arjun and Krish, who are interested in the stock market:
Arjun: I see a growing trend in usage of jeans trousers. In the last few years, I have been wearing Denim jeans trousers more often as compared to trousers made of other material. I have also seen my friends do the same. Companies like Infosys which were strict on dress code, now allow jeans to be worn on all days of the week. Also, my friends and I have bought a number of denim trousers and very few trousers of other fabric in the last few years. About seven years ago, I had switched to using Jockey brand of undergarments and I had also noticed that the group of friends staying with me, were also switching to Jockey. But during those days, I had not realized that I could invest in Page Industries which manufactures Jockey brand of undergarments. Page Industries got listed on the stock market in the year 2007 and its price has moved from 400 levels to 11000. Regarding denim, I haven’t noticed any one particular brand of Jeans that are selling the most, and hence I am considering investing in listed companies in India that manufacture denim fabric.
Krish: Have you already analyzed any company that is into denim fabric manufacturing?
Arjun: Yes, I have analyzed Nandan Denim Ltd, but I am not sure if I should invest in it.
Krish: Tell me about your qualitative analysis of Nandan Denim
Arjun: First, let me tell you about some points that I have noted down related to Denim industry:
- India has the 2nd largest denim fabric producing capacity in the world
- The Indian denim apparel market (CAGR of 14% – 15%) is fast outpacing the global denim apparel market (CAGR of 3% – 5%)
- India is set to establish itself as the global Denim fabric and apparel production hub due to low cost of production, competitive currency, favorable government textile policies, and China’s decreasing competitive edge
- Demand for Denim is expected to increase in India because of factors like
- Rising acceptance of denim jeans as office wear
- Demand is rising from Tier II and III cities
- Increase in demand from womenswear segment
- Also, 78% of Indian population is less than 45 years of age and there is an increase in fashion consciousness among them.
Krish: Where did you gather this information from?
Arjun: I gathered this information from Nandan Denim’s Analyst Meet Presentation available on company’s website.
Krish: Okay, tell me more.
Arjun: Here are some highlights of qualitative analysis on Nandan Denim:
- Arvind Ltd has been the largest manufacturer of Denim in India and Nandan Denim is second. However, Nandan Denim is expanding its manufacturing facility and it is set to become the largest manufacturer of Denim in India
- Nandan Denim Ltd has machinery with latest technology from Germany and Japan, capable of producing wide range of denim fabrics
- Sufficient power through its own 15 MW captive power plant
- Acceptance from leading domestic and global brands
- Focus on value-added-segment since lower price segment has higher competition
- In-house creative design studio and product development cell
Other points to note are:
- Promoter holding is 61.47%
- No diversification (diversifying outside area-of-competence). 90% denim and 10% in khakis and shirt fabrics
- 60% of the Board of Directors are not related to Promoters, and the Independent Directors have many years of experience working with other companies/institutions
- Plans to increase export sales from 12% to 25% in the next two years
Krish: Do they manufacture stretch jeans which are currently in vogue?
Arjun: Yes, I noticed in the Annual Report 2014-2015 that Nandan Denim’s product range consists of a wide variety of denim fabrics which includes stretch denim as well.
Krish: Interesting.. Have you performed the quantitative analysis?
Arjun: Yes, here are some highlights from quantitative analysis of Nandan Denim:
Source: Nandan Denim Q3 & 9M FY16 Results Update presentation
Also, Interest coverage ratio, current coverage ratio, and efficiency ratios look okay. Cash Flow from Operations has been more than Net Profit in the last 7 years. Earnings per Share (EPS) has been increasing.
Krish: How is the stock valued at the current market price of 114.35?
Arjun: Price to Earning per share (PE) ratio is 8.39 considering trailing twelve months (TTM) earnings. Here’s how PEG (PE to Growth) ratio looks like for different Growth rates:
PEG ratio works out to be 0.41 considering Earning per Share (EPS) growth estimate to be 20.7%. Considering pessimistic EPS growth estimate of 10.3% (which is 50% of EPS growth estimate of 20.7%), PEG ratio works out to be 0.81. So, the stock meets the valuation criteria of PEG ratio less than 1.
Krish: Is there anything that you feel needs further investigation?
Arjun: Yes, the Balance Sheet shows Contingent Liabilities of 208 crores. I’m not sure what this means.
Krish: Contingent Liabilities are potential liabilities which may or may not be incurred depending on the outcome of an event in the future. For example, there could be pending tax related disputes that may or may not go in favor of the company. You should be able to find information on contingent liabilities in the Annual Report. Here is the list of
Contingent liabilities that I found in Nandan Denim Annual Report:
Arjun: I see that a majority amount of contingent liabilities is related to “Estimated amount of Contracts remain to be executed on Capital Account” and it amounts to 157 crores. What does this mean?
Krish: Estimated amount of contracts remaining to be executed on capital account is usually related to cases wherein purchase orders have been released and work has either not commenced or has been partially completed.
Arjun: Thanks! I have a better understanding of contingent liabilities now, and in my opinion, Nandan Denim should be able to fulfill those purchase orders.
Krish: Based on your qualitative and quantitative analysis of Nandan Denim, is there something that concerns you?
Arjun: I am concerned about lower Profit After Tax (PAT) margins and higher Debt to Equity ratio. Also, Free Cash Flow values from the previous years do not look good.
Krish: Has the management indicated that PAT margins could improve in the future?
Arjun: Yes, here are excerpts from Q1FY16 Conference Call Transcript. Prateek Ingawale, an individual investor, asked questions related to PAT margins and the questions were answered by Govind Sharda (President of Nandan Denim) and Deepak Chiripal (CEO of Nandan Denim).
Krish: Good to know that you spent time going through Conference Call transcripts. Do you feel convinced?
Arjun: I am not sure. What do you suggest?
Krish: I am not going to give you a buy or sell recommendation.
Arjun: Sorry, I know you have told me in the past that I should not be investing based on borrowed conviction.
Krish: If you are not convinced, you may consider reading through Nandan Denim’s previous annual reports. Check for forward-looking statements (e.g. estimates of growth in profit), and see if actual values were in-line with the estimates. You could also choose to wait till the profit margins improve. By the way, have you compared Nandan Denim with its competitors?
Arjun: No, I haven’t done a comparison yet with Nandan Denim’s competitors like Arvind Ltd and Aarvee Denim.
Krish: I suggest that you do the comparison. After the comparison, if you feel Nandan Denim is better than its competitors, consider going through the video on “Nandan Denim Limited Analyst Meet on 24 Jun 2015“. You will be able to get more information from the presentation made by Senior Management during Analyst Meet, and you may also be able to gain more insight into Nandan Denim based on answers provided by Senior Management during Q&A session at the end of the video.
Arjun: Okay. I will do the comparison and will again give a thought on the concerns that I have about Nandan Denim. Please watch the video and take a decision to invest in Nandan Denim Ltd. Thanks for helping me in the analysis Krish!